If I hear another so called Wall Street expert tell us in an interview that mark to market is a poorly designed policy and that the value of the TARP assets are significantly higher than currently represented I may just wait outside the studio where the interview is held and egg the the "expert". What ridiculous planet have these "experts" been living on?
Oh yeah its Planet Wall Street. Were values are not based on replacement value plus a 4x cash flow multiple, but on 2x replacement value and 12x cashflow.
Conversation between bulge bracket Wall Streeter ("WS") and a true investor ("TI"):
WS. If a bank is not getting capitalized by Uncle Sam and it can not sell its assets at the value they were purchased at what does that mean?
TI. It means the assets are worth less than they paid for them.
WS. How much less?
TI. Whatever anyone will pay for them.
WS. What if I can't get a bank to finance me so I can pay even a much less amount?
TI. You are still paying too much.
WS. But the Banks are saying they can't lend money because they have had to mark down assets too much.
TI. If they hadn't paid speculative values they thought were discounts to future value for these assets they would not be in the bind they are now.
WS. That's ridiculous , do you really believe that all the value, cost, labor, materials used to build these assets also have less than half the value they were paid for and compensated at?
TI. When it comes to the assets you are claiming the Banks won't lend against and have been more than halved in value by mark to market accounting, yes.
WS. That makes no sense at all.
TI. I am not surprised to hear you say that.
We have been living in a hyper inflated world for so long, 20.0x multiples became the norm. $1.5 million for a 1 bedroom apartment seemed reasonable. Billionaire 30 year olds were becoming common. $85,000 cars were common. People, these values were created by unrealistic economic policies and thinking that moved 3 deviations from real for so long that 2 deviations seemed like bargain hunting.
Tomorrow we'll discuss finding stocks in any market that protect your principal and build value for you over time in any market.
Build Value Every day
Brad van Siclen
But
Tuesday, March 31, 2009
Monday, March 30, 2009
US Government Owns Car Companies Too? 3 / 29 / 2009
We have now officially crossed the chasm. There is no turning back. Any company considered large enough that its failure will result in large scale, prolonged unemployment benefits payments, the US Government will come in and save. Folks, President Obama just stated that the US Government will honor all car service plans and warranties. Does anyone find this remarkably shocking even in this era of daily government bailouts?
So, does this mean that when a corporation has a bad year or a bad few years in a row, all it need do is suggest that a bankruptcy is coming and beg for a hand out? You know folks it's all well and good that Executives and CEO's are seeing reduced bonuses and pay cuts. But what of the millions in salary and bonuses they "earned" between 2001 and 2008? Granted, there are a lot of issues that burn us all. But perhaps the biggest issue is the refusal by the US Car makers to refine and improve the qualities of their models in favor of profits. 40 years ago the US made the best cars, period. And beginning with the first oil crisis of the 70's, Auto makers began squeezing out profits by cutting manufacturing and parts costs. Seeing the car as a commodity and consumer disposable, and less like a business critical tool, luxury good, or consumer durable.
In the name of profits they started putting cheap parts and cheap engines into great product lines and poof, consumers and brand identity eroded. Ford made us all endure decades of crappy Mustangs. GM ruined the Cadillac. Crysler..well they destroyed the Jeep. And while this was all happening, and consumers moved to Honda and Toyota, the Big Three began to convince the consumer to drive their trucks instead of their crappy sedans and charged us more for the privilege.
Ok so I have over simplified here, but not by a lot. The real point is that when Honda and Toyota were building substandard cars in the 70's, they competed on price and poured profits into improving their quality, and ten years later were able to charge 25k for their cars and gain significant market share. Hyndai is the latest example of this business model - though they are 20 years behind Toyota and Honda in the cycle.
The sad part is that the Big Three knew this was happening. They knew that they were trading all their build quality and brand strength for short term profits. And the proof is their recent response. Each of the big three has taken a portion of profits and began rebuilding their signature cars to Toyota and Honda quality - the new Cadillacs, Mustangs, Camaros and Corvettes are as good as they ever were. But rather than having the ability to leverage this renewed value, they have run out of time. And only the government believes they can and will endure. The workers are refusing to recognize their position or the long term vision, the executives continue to point fingers, and the build quality for 90 percent of their fleets still lags the Koreans, Japanese and the Germans. In all consumer durables, build quality is synonymous with value at all price ranges.
So maybe it is up to the US Government to step in and save the industry. Maybe in this case the same government who the auto workers voted in has no choice but to save them. But once saved, we should all be afraid of these companies repeating the same mistakes in the future. Maybe they need to hire foreign workers and Japanese and German executives who still understand that value is built incrementally every day year over year. If we were this government, we'd do what Regan did. Lock'em all out and take over the assets on behalf of the shareholders. Then hire cheaper and importantly better workers. Yes extreme, but that's what's needed these days. These companies lose vast amounts each week they remain open in current state.
Build Value Every Day.
Brad van Siclen
So, does this mean that when a corporation has a bad year or a bad few years in a row, all it need do is suggest that a bankruptcy is coming and beg for a hand out? You know folks it's all well and good that Executives and CEO's are seeing reduced bonuses and pay cuts. But what of the millions in salary and bonuses they "earned" between 2001 and 2008? Granted, there are a lot of issues that burn us all. But perhaps the biggest issue is the refusal by the US Car makers to refine and improve the qualities of their models in favor of profits. 40 years ago the US made the best cars, period. And beginning with the first oil crisis of the 70's, Auto makers began squeezing out profits by cutting manufacturing and parts costs. Seeing the car as a commodity and consumer disposable, and less like a business critical tool, luxury good, or consumer durable.
In the name of profits they started putting cheap parts and cheap engines into great product lines and poof, consumers and brand identity eroded. Ford made us all endure decades of crappy Mustangs. GM ruined the Cadillac. Crysler..well they destroyed the Jeep. And while this was all happening, and consumers moved to Honda and Toyota, the Big Three began to convince the consumer to drive their trucks instead of their crappy sedans and charged us more for the privilege.
Ok so I have over simplified here, but not by a lot. The real point is that when Honda and Toyota were building substandard cars in the 70's, they competed on price and poured profits into improving their quality, and ten years later were able to charge 25k for their cars and gain significant market share. Hyndai is the latest example of this business model - though they are 20 years behind Toyota and Honda in the cycle.
The sad part is that the Big Three knew this was happening. They knew that they were trading all their build quality and brand strength for short term profits. And the proof is their recent response. Each of the big three has taken a portion of profits and began rebuilding their signature cars to Toyota and Honda quality - the new Cadillacs, Mustangs, Camaros and Corvettes are as good as they ever were. But rather than having the ability to leverage this renewed value, they have run out of time. And only the government believes they can and will endure. The workers are refusing to recognize their position or the long term vision, the executives continue to point fingers, and the build quality for 90 percent of their fleets still lags the Koreans, Japanese and the Germans. In all consumer durables, build quality is synonymous with value at all price ranges.
So maybe it is up to the US Government to step in and save the industry. Maybe in this case the same government who the auto workers voted in has no choice but to save them. But once saved, we should all be afraid of these companies repeating the same mistakes in the future. Maybe they need to hire foreign workers and Japanese and German executives who still understand that value is built incrementally every day year over year. If we were this government, we'd do what Regan did. Lock'em all out and take over the assets on behalf of the shareholders. Then hire cheaper and importantly better workers. Yes extreme, but that's what's needed these days. These companies lose vast amounts each week they remain open in current state.
Build Value Every Day.
Brad van Siclen
Friday, March 27, 2009
The Dow Jones Speaks - 3 / 27 / 2009
This Dow Jones Index is very different from the Dow Jones Index of the past. What was once an elegant and simple barometer measuring the health and forecast of America's 30 greatest companies, has become a bipolar, reactionary indicator of day trader sentiment. It is this writer's opinion that the creation of the Dow Jones Index shares, which enables you to buy or sell pieces of each Dow Jones component in one single transaction has in fact ruined the very value the Index was designed to report.
Wall Street continues to hail the American Exchange for creating this trading opportunity, and by Wall Street standards, it has been one of the greatest successes of all times. The daily volume trades in the Dow Jones components have soared, and the "Diamonds" as the index shares are called trade as liquid water in the Amazon.
But in market conditions like we have beginning 2007 when valuations on companies far exceeded any rational financial math combined with market liquidity fed by extraordinarily lax margin standards even the most bullish of equity analysts stopped risking large investments in single issues, and instead focused their efforts on the momentum driven index investments. And the Diamonds, with their huge daily move potential and extreme liquidity fit the day trading psyche perfectly. Except unlike the $10,000 positions that fueled the day traders of the Internet bubble, 100,000 - 1,000,0000 positions became the norm as professional money managers and the traders became the new day traders.
With this switch, the Dow Jones became an index of hourly day trader sentiment of the US Economy, and its crazed runs and dips caused by speculative watchers of intraday technical trends and charts. And now we have a Fed and Treasury Secretary to is reacting to this index..How?
Well we and they really do not know how bad the banking system is, nor how far out and how large the legitimate counter party claims on derivatives go. Why does the Treasury continue to give money to AIG? Not to save AIG, but to settle the claims of the parties who bet incorrectly in this economic fiasco who in turn owe money to the parties who bet correctly. See AIG insured the parties that bet incorrectly. And those parties include Goldman Sachs, Bank America, Citigroup, HSBC, Wells Fargo, Barclays, and Society General, to name a few. These illustrious institutions can not afford to pay the claims against them unless AIG covers their losses. And AIG can't cover their losses unless the US government pours more and more money into it.
Now back to 2007. The hardened financial traders only care to make money. They smell blood and they begin selling the Dow Jones Index in massive quantities knowing that a wrong bet may cost them 5% at most because of the extreme liquidity of the Diamonds. Meanwhile, fund managers running your money are, in general blind to this momentum driven equity fiasco. They think, "Hey, i guess selling has started because valuations are too high." Most of these managers recognize that P/E multiples of 20.0x - 24.0x are a bit high, so a 15% retrace of the 2007 valuations is likely and expected. They sell a bit, but hold the vast majority of their Dow Jones component positions. That brings the Dow into the 12,500 range. But the traders keep selling. And by know the losses are piling up at a pace your fund managers who are strapped to individual issues can't keep up with. Traders, interested only in the super liquid Diamonds keep selling. They keep the momentum going and pretty soon Dow Components see multiples go to 8.0 - 10.0 x and the DOW indicated market loses 40% - 50% of its value with your fund managers wondering how and why.
Now bring in the economists who have a systemic financial issue, caused by the ridiculous expanse of the derivatives markets and the abusers of it, combined with their incorrect assumption that the Dow Jones Index is still a great barometer of the US economy, and they, including the Treasury, feel justified in throwing trillions of dollars into the pockets of the ring leaders of this crazed capital market gyration. I listed a few of them above (AIG,Goldman Sachs, Bank America, Citigroup, HSBC, Wells Fargo, Barclays, and Society General).
These institutions will not do good for the world unless the world aligns itself with their needs. But the Treasury and the Fed feel these groups are an integral component to the World Economy Functioning properly. This is no longer the case. while in a Bull Market they are leaders in raising capital for speculative ventures, in Bear Markets they are the leaders of the race to the bottom.
I ask all readers - Who funded India's, China's, Korea's last 20 year trajectory? Commercial lenders and private equity. Not Wall Street World. Wall Street World came in only lately to take advantage of the last 20% speculative growth. So why must we bail them out? If the US government wants to save the US economy, by pass Wall Street, they have become expert in speculating. Give the money to long standing conservative institutions and bring back Glass Steagall. Bring it back now. Wall Street will never self regulate, and when they got their hands on the Commercial Banks, it has been one speculative disaster after another. The Dow Jones may now just be an indicator of precisely that. Wall Street has maybe proven itself to be nothing more than a pass through for professionals who make a living speculating on the economy. The Dow Jones Index is good at telling us only that.
Build Value Every Day.
Brad van Siclen
Wall Street continues to hail the American Exchange for creating this trading opportunity, and by Wall Street standards, it has been one of the greatest successes of all times. The daily volume trades in the Dow Jones components have soared, and the "Diamonds" as the index shares are called trade as liquid water in the Amazon.
But in market conditions like we have beginning 2007 when valuations on companies far exceeded any rational financial math combined with market liquidity fed by extraordinarily lax margin standards even the most bullish of equity analysts stopped risking large investments in single issues, and instead focused their efforts on the momentum driven index investments. And the Diamonds, with their huge daily move potential and extreme liquidity fit the day trading psyche perfectly. Except unlike the $10,000 positions that fueled the day traders of the Internet bubble, 100,000 - 1,000,0000 positions became the norm as professional money managers and the traders became the new day traders.
With this switch, the Dow Jones became an index of hourly day trader sentiment of the US Economy, and its crazed runs and dips caused by speculative watchers of intraday technical trends and charts. And now we have a Fed and Treasury Secretary to is reacting to this index..How?
Well we and they really do not know how bad the banking system is, nor how far out and how large the legitimate counter party claims on derivatives go. Why does the Treasury continue to give money to AIG? Not to save AIG, but to settle the claims of the parties who bet incorrectly in this economic fiasco who in turn owe money to the parties who bet correctly. See AIG insured the parties that bet incorrectly. And those parties include Goldman Sachs, Bank America, Citigroup, HSBC, Wells Fargo, Barclays, and Society General, to name a few. These illustrious institutions can not afford to pay the claims against them unless AIG covers their losses. And AIG can't cover their losses unless the US government pours more and more money into it.
Now back to 2007. The hardened financial traders only care to make money. They smell blood and they begin selling the Dow Jones Index in massive quantities knowing that a wrong bet may cost them 5% at most because of the extreme liquidity of the Diamonds. Meanwhile, fund managers running your money are, in general blind to this momentum driven equity fiasco. They think, "Hey, i guess selling has started because valuations are too high." Most of these managers recognize that P/E multiples of 20.0x - 24.0x are a bit high, so a 15% retrace of the 2007 valuations is likely and expected. They sell a bit, but hold the vast majority of their Dow Jones component positions. That brings the Dow into the 12,500 range. But the traders keep selling. And by know the losses are piling up at a pace your fund managers who are strapped to individual issues can't keep up with. Traders, interested only in the super liquid Diamonds keep selling. They keep the momentum going and pretty soon Dow Components see multiples go to 8.0 - 10.0 x and the DOW indicated market loses 40% - 50% of its value with your fund managers wondering how and why.
Now bring in the economists who have a systemic financial issue, caused by the ridiculous expanse of the derivatives markets and the abusers of it, combined with their incorrect assumption that the Dow Jones Index is still a great barometer of the US economy, and they, including the Treasury, feel justified in throwing trillions of dollars into the pockets of the ring leaders of this crazed capital market gyration. I listed a few of them above (AIG,Goldman Sachs, Bank America, Citigroup, HSBC, Wells Fargo, Barclays, and Society General).
These institutions will not do good for the world unless the world aligns itself with their needs. But the Treasury and the Fed feel these groups are an integral component to the World Economy Functioning properly. This is no longer the case. while in a Bull Market they are leaders in raising capital for speculative ventures, in Bear Markets they are the leaders of the race to the bottom.
I ask all readers - Who funded India's, China's, Korea's last 20 year trajectory? Commercial lenders and private equity. Not Wall Street World. Wall Street World came in only lately to take advantage of the last 20% speculative growth. So why must we bail them out? If the US government wants to save the US economy, by pass Wall Street, they have become expert in speculating. Give the money to long standing conservative institutions and bring back Glass Steagall. Bring it back now. Wall Street will never self regulate, and when they got their hands on the Commercial Banks, it has been one speculative disaster after another. The Dow Jones may now just be an indicator of precisely that. Wall Street has maybe proven itself to be nothing more than a pass through for professionals who make a living speculating on the economy. The Dow Jones Index is good at telling us only that.
Build Value Every Day.
Brad van Siclen
Wednesday, March 25, 2009
Monday, March 23, 2009
Part 1 - Observations on Market Gyrations - 3 / 25 / 2009
Lately, the horror stories concerning decimated 401k's and lost retirement accounts has brought to bear a significant misconception in any kind of investing, and most obviously equities investing. We, and I include myself in this, have been fooled by fund managers, traders, research analysts, the lot for 50 years now.
I recognize this is a statement that offers one response, "No Kidding". But I think it's the reason why we have been misled that offers some of the best examples of how to minimize its impact on your future and your children's futures. I have borne witness to much of what I will explain here for all of my professional career. And it's the investors, institutional and individual, that intuitively understand this and importantly ACT on this information who manage to protect their principal, protect their gains, and compound those gains over a 5 year, 15 year, and 20 year period of time.
So with that statement, we embark on a series of daily called "Observations on Market Gyrations" designed over time to enhance your capital market's perspective and ultimately your expertise. Each posting under this heading will highlight common investment issues and basic solutions to them and the perspective that took us from them.
First and foremost, the concept of professional fund management is, and always will be a farce at one level or another. Fund managers and fund companies exist to offer vast diversification and educated stock selections to individuals who want the opportunity to invest in equities but do not have the time or do not want to make the effort to review and select their own investments. But this said, it is the exception, not the rule that Fund managers perform better over a 5 year period than any of the major indexes. The reason for this is they seek out, as core portfolio holdings, companies with consistent earnings and proven management that come with good Moody's, Valueline, and S&P ratings and receive ample "Buy" recommendations from research analysts at the larger investment banks. Seems like a safe and consistent bet that, importantly, no investor in their fund can argue with.
A quick review of the core holdings from my random sampling of popular Growth and Income funds from major Fund Managers reveals the following corporation's stocks in their portfolios: Exxon, Procter & Gamble, General Electric, AT & T, Johnson & Johnson, Chevron, Microsoft, Wal-Mart, Pfizer, JP Morgan Chase. Big names, great companies. But here is a key problem. The entire research world spends hundreds of thousands of hours quarterly on these very same companies. The result is that each of the shares of these companies are fully valued and fairly valued by any metric that the equities research world bases their recommendations on. And fairly valued or fully valued shares UNDER PERFORM MARKET INDEXES. (P.S. We am not forgetting the dividend factor. But people, these companies pay very poor dividends which, upon announcement, reduce the price per share equivalent by the dividend amount. Its a zero sum to the holder. In our opinion, dividends that are not equal to 33% of the companies earnings are not dividends at all.)
If you invest in one of these companies or "hold" your position in one of these companies you are in fact speculating that the global industry these companies address will grow. That the economic environment that each of these companies operate in will continue to grow. And we all know now that speculation leaves you and your investment wide open for a market corrections and loss. Or does it?
There are simple preventative measures that all of us, fund managers included, can use to protect large losses. We will review these periodically, but the easiest one to remember is called a stop-loss order. In this type of order the investor in say Microsoft can enter an order to sell all or part of a position at a pre-set price that is below the current price of the stock. Thus should a interim correction occur, that ultimately becomes a bear market free fall, you as an investor have pre-set your gains or at least your selling price and therefor are protected from significant future loss.
Now People, we do not want to hear, "yes, but if my position is sold and the market for that position rallies, an hour later I could lose my upside". Because if that is your perspective you are a speculator, not an investor, and that means you are willing to risk your principal investment and perhaps your savings in order to have a chance to participate in a speculative market rally.
This brings us back to "professional" fund management. How is it that managers entrusted with your investments would rather speculate with your money than build its value incrementally? How is it that any of them shows a loss of more than 20% last year? Unfortunately its not for lack of ability of lack of training. It is complete lack of perspective. And hopefully, through this daily piece, we are building real perspective and therefore real value incrementally and over time.
Build Value Every Day.
Brad van Siclen
I recognize this is a statement that offers one response, "No Kidding". But I think it's the reason why we have been misled that offers some of the best examples of how to minimize its impact on your future and your children's futures. I have borne witness to much of what I will explain here for all of my professional career. And it's the investors, institutional and individual, that intuitively understand this and importantly ACT on this information who manage to protect their principal, protect their gains, and compound those gains over a 5 year, 15 year, and 20 year period of time.
So with that statement, we embark on a series of daily called "Observations on Market Gyrations" designed over time to enhance your capital market's perspective and ultimately your expertise. Each posting under this heading will highlight common investment issues and basic solutions to them and the perspective that took us from them.
First and foremost, the concept of professional fund management is, and always will be a farce at one level or another. Fund managers and fund companies exist to offer vast diversification and educated stock selections to individuals who want the opportunity to invest in equities but do not have the time or do not want to make the effort to review and select their own investments. But this said, it is the exception, not the rule that Fund managers perform better over a 5 year period than any of the major indexes. The reason for this is they seek out, as core portfolio holdings, companies with consistent earnings and proven management that come with good Moody's, Valueline, and S&P ratings and receive ample "Buy" recommendations from research analysts at the larger investment banks. Seems like a safe and consistent bet that, importantly, no investor in their fund can argue with.
A quick review of the core holdings from my random sampling of popular Growth and Income funds from major Fund Managers reveals the following corporation's stocks in their portfolios: Exxon, Procter & Gamble, General Electric, AT & T, Johnson & Johnson, Chevron, Microsoft, Wal-Mart, Pfizer, JP Morgan Chase. Big names, great companies. But here is a key problem. The entire research world spends hundreds of thousands of hours quarterly on these very same companies. The result is that each of the shares of these companies are fully valued and fairly valued by any metric that the equities research world bases their recommendations on. And fairly valued or fully valued shares UNDER PERFORM MARKET INDEXES. (P.S. We am not forgetting the dividend factor. But people, these companies pay very poor dividends which, upon announcement, reduce the price per share equivalent by the dividend amount. Its a zero sum to the holder. In our opinion, dividends that are not equal to 33% of the companies earnings are not dividends at all.)
If you invest in one of these companies or "hold" your position in one of these companies you are in fact speculating that the global industry these companies address will grow. That the economic environment that each of these companies operate in will continue to grow. And we all know now that speculation leaves you and your investment wide open for a market corrections and loss. Or does it?
There are simple preventative measures that all of us, fund managers included, can use to protect large losses. We will review these periodically, but the easiest one to remember is called a stop-loss order. In this type of order the investor in say Microsoft can enter an order to sell all or part of a position at a pre-set price that is below the current price of the stock. Thus should a interim correction occur, that ultimately becomes a bear market free fall, you as an investor have pre-set your gains or at least your selling price and therefor are protected from significant future loss.
Now People, we do not want to hear, "yes, but if my position is sold and the market for that position rallies, an hour later I could lose my upside". Because if that is your perspective you are a speculator, not an investor, and that means you are willing to risk your principal investment and perhaps your savings in order to have a chance to participate in a speculative market rally.
This brings us back to "professional" fund management. How is it that managers entrusted with your investments would rather speculate with your money than build its value incrementally? How is it that any of them shows a loss of more than 20% last year? Unfortunately its not for lack of ability of lack of training. It is complete lack of perspective. And hopefully, through this daily piece, we are building real perspective and therefore real value incrementally and over time.
Build Value Every Day.
Brad van Siclen
We Need a Perspective Reset - 3 / 23 / 2009
We Need a Perspective Reset People. 4 months ago, before President Obama took office, before Tim Geitner became Treasury Secretary, Hank Paulson recommended the very bail out plan we are hearing about today. Readers know that I am no fan of Paulson. He is a very capable and persuasive manager, but when caught in this historic and unprecedented financial crisis, his solution was to rely on answers from the same market cronies (CEOs) who were asleep at the switch when the train went roaring by.
During that uneasy time, the Summer of 2008, I was asked by the BBC to make a statement on my position for the first bail out. This was the late summer bailout that created a blind pool of money that was flexible enough to acquire "whatever" needed to be acquired to stabilize what seemed like a banking sector nose dive to zero value. Hours before the congressional vote I stated that "The President (Bush) has made an international statement that we must bailout bank balance sheets. If we do not the world's faith in US economic leadership will be shattered and the US will lose whatever leadership role it has." Congress declined it. The markets dove, the US dollar dropped. Five days later the Senate approved it, along with the Executive branch, and in a re-vote touted by many as full of pork, Congress approved the bail out 10 days after its first failed approval.
So finally, here it is. And ahead of its announcement, President Obama sat, yet again with the media, 60 minutes. His statement "I think that systemic risks are still out there. And if we did nothing you could still have some big problems. There are certain institutions that are so big that if they fail, they bring a lot of other financial institutions down with them. And if all those financial institutions fail all at the same time, then you could see an even more destructive recession and potentially depression." A very political way of saying, "That's my answer to the statements that AIG is nothing more than a pass through Hank's and Tim's favorite banks."
I credit the Opinion Editor of the New York Times this Sunday in permitting Frank Rich the space to properly call out the systemic cronyism which first created this problem and now continues to benefit from the "solutions". It allowed Governor Corzine (a former Goldman Sach's CEO) to tell it like it is, "The people have a right to be angry. We are rewarding failure with bailouts and bonuses."
He could not be more right about this. A significant reason for the mess we find ourselves in is the short sighted reward strategy put in place by CEO's and Board Members who continued to adjust their strategy to suit the shareholder's desires for quarterly results. It created a culture that produced short term gains at the expense of long term sustainability. And then paid them for leveraging their business model in the short term in order to produce quarterly earnings and annual bonuses. Well, we know now for certain that these business strategies end badly. Enron, Countrywide, AIG, Citibank, Merrill, Fifth Third Bank, Lehman Brothers, Bear Sterns. Will this list ever end? No.
Shareholders do not see themselves as owners of businesses, they see themselves as participants in the gains and losses of these businesses over short periods of time. If they saw themselves as owners, which they are, shareholders would be running at the corporate offices of these businesses listed in the last paragraph with torches and pitchforks. Calling for legal action against Board members and Executives who illegally transferred 100's of millions of profits from their shareholders into their own pockets. In certain circumstances, that's embezzlement.
But shareholders are not taking action. These "brilliant" fund managers who run your investments are simply repeating the same tired mantras. "Unforeseen market environments and historic changes have led to the losses in the companies we invest in and in the value of their stock." No one needs a fund manager who does not see historic changes coming. These historic market moves were being called for 24 months ago. These fund managers simply created index funds weighted in sectors they were comfortable with sat back and watched. Do the words "Fiduciary Responsibility" apply to any of these so called CFA fund managers? ITS A JOKE. Shareholders must must begin to act like owners policing the companies they own to build real value over time. Otherwise you are a speculator, a gambler.
Seek out and invest in companies that are building value. I think it has become apparent that the biggest companies are not building value they are acquiring value and then leveraging it. In a default or failed business model, it's the shareholders that lose. Not the employees who receive cash bonuses that far exceed the value they created for their shareholders.
Wake up people.
Build Value Every Day.
Brad van Siclen
During that uneasy time, the Summer of 2008, I was asked by the BBC to make a statement on my position for the first bail out. This was the late summer bailout that created a blind pool of money that was flexible enough to acquire "whatever" needed to be acquired to stabilize what seemed like a banking sector nose dive to zero value. Hours before the congressional vote I stated that "The President (Bush) has made an international statement that we must bailout bank balance sheets. If we do not the world's faith in US economic leadership will be shattered and the US will lose whatever leadership role it has." Congress declined it. The markets dove, the US dollar dropped. Five days later the Senate approved it, along with the Executive branch, and in a re-vote touted by many as full of pork, Congress approved the bail out 10 days after its first failed approval.
So finally, here it is. And ahead of its announcement, President Obama sat, yet again with the media, 60 minutes. His statement "I think that systemic risks are still out there. And if we did nothing you could still have some big problems. There are certain institutions that are so big that if they fail, they bring a lot of other financial institutions down with them. And if all those financial institutions fail all at the same time, then you could see an even more destructive recession and potentially depression." A very political way of saying, "That's my answer to the statements that AIG is nothing more than a pass through Hank's and Tim's favorite banks."
I credit the Opinion Editor of the New York Times this Sunday in permitting Frank Rich the space to properly call out the systemic cronyism which first created this problem and now continues to benefit from the "solutions". It allowed Governor Corzine (a former Goldman Sach's CEO) to tell it like it is, "The people have a right to be angry. We are rewarding failure with bailouts and bonuses."
He could not be more right about this. A significant reason for the mess we find ourselves in is the short sighted reward strategy put in place by CEO's and Board Members who continued to adjust their strategy to suit the shareholder's desires for quarterly results. It created a culture that produced short term gains at the expense of long term sustainability. And then paid them for leveraging their business model in the short term in order to produce quarterly earnings and annual bonuses. Well, we know now for certain that these business strategies end badly. Enron, Countrywide, AIG, Citibank, Merrill, Fifth Third Bank, Lehman Brothers, Bear Sterns. Will this list ever end? No.
Shareholders do not see themselves as owners of businesses, they see themselves as participants in the gains and losses of these businesses over short periods of time. If they saw themselves as owners, which they are, shareholders would be running at the corporate offices of these businesses listed in the last paragraph with torches and pitchforks. Calling for legal action against Board members and Executives who illegally transferred 100's of millions of profits from their shareholders into their own pockets. In certain circumstances, that's embezzlement.
But shareholders are not taking action. These "brilliant" fund managers who run your investments are simply repeating the same tired mantras. "Unforeseen market environments and historic changes have led to the losses in the companies we invest in and in the value of their stock." No one needs a fund manager who does not see historic changes coming. These historic market moves were being called for 24 months ago. These fund managers simply created index funds weighted in sectors they were comfortable with sat back and watched. Do the words "Fiduciary Responsibility" apply to any of these so called CFA fund managers? ITS A JOKE. Shareholders must must begin to act like owners policing the companies they own to build real value over time. Otherwise you are a speculator, a gambler.
Seek out and invest in companies that are building value. I think it has become apparent that the biggest companies are not building value they are acquiring value and then leveraging it. In a default or failed business model, it's the shareholders that lose. Not the employees who receive cash bonuses that far exceed the value they created for their shareholders.
Wake up people.
Build Value Every Day.
Brad van Siclen
Friday, March 20, 2009
Who is Driving this Bus? 3 / 20 / 2009
Readers, we are desperate for leaders. I like you have been searching for answers in the financial media. And I have been heartened by the fact that CNBC, Bloomberg, Fox Business and the Wall Street Journal have been doing their best to put long term performing, great Wall Street minds on their programs and in their pages. Unfortunately, not one of these greatest minds has any interest in taking a stand or even making more than a cursory prediction as to the economy. Terms like "very unusual period", "historic" and "unprecedented" are typical in any of these interviews. Not one is willing to risk their reputation with the investment world by making a solid prediction.
This is understandable in a way. Every day seems to bring swift and massive Federal and Congressional actions. And every day the trading psyche (and not the investment psyche) that is nearly 100% of capital markets action these days reacts to the US Government moves. I think it is safe to say that this Government has yet to recognize that it is still chasing a capital market's sentiment led by the same trading psyche that in large part is responsible for the crazed buying frenzy that bid the Dow Jones to record highs in October 2007, and extreme lows just 16 months later, wiping out value that had been building really since October 2002. Its the same trading psyche that took oil from near $150.00 per barrel in July 2008 to $38.00 per barrel 8 months later.
These are but a small fraction of illogical valuation run ups and run downs that say one thing to me. Traders and momentum have taken over the Capital markets. Where are the value investors? Where are the buy and hold investors? They don't exist. And without fundamental investors, that buy based upon historic and single digit deviation projection assumptions traders will continue to run the markets and ultimately direct this Government's intervention plans.
So what are we to do here? First the government has got to stop making historic decisions without real public discussion and description. We need more than feel good "we are determined, we will rise above this" speeches from Bernanke and the President. What we need is detailed rational that 90 percent of non-financial professionals will not understand. But that 90 percent of financial professionals will understand. Financial pros need to know the details, the good and the bad, so that their decisions can be based on an information foundation that looks planned, looks logical, and does not look reactive. Reactive in the financial markets means trouble people. This Government is reactive.
We are expecting to hear from Bernanke later today. I'll write the conclusion to this daily piece after he speaks.
Until then, try to
Build Value Every Day
Brad van Siclen
This is understandable in a way. Every day seems to bring swift and massive Federal and Congressional actions. And every day the trading psyche (and not the investment psyche) that is nearly 100% of capital markets action these days reacts to the US Government moves. I think it is safe to say that this Government has yet to recognize that it is still chasing a capital market's sentiment led by the same trading psyche that in large part is responsible for the crazed buying frenzy that bid the Dow Jones to record highs in October 2007, and extreme lows just 16 months later, wiping out value that had been building really since October 2002. Its the same trading psyche that took oil from near $150.00 per barrel in July 2008 to $38.00 per barrel 8 months later.
These are but a small fraction of illogical valuation run ups and run downs that say one thing to me. Traders and momentum have taken over the Capital markets. Where are the value investors? Where are the buy and hold investors? They don't exist. And without fundamental investors, that buy based upon historic and single digit deviation projection assumptions traders will continue to run the markets and ultimately direct this Government's intervention plans.
So what are we to do here? First the government has got to stop making historic decisions without real public discussion and description. We need more than feel good "we are determined, we will rise above this" speeches from Bernanke and the President. What we need is detailed rational that 90 percent of non-financial professionals will not understand. But that 90 percent of financial professionals will understand. Financial pros need to know the details, the good and the bad, so that their decisions can be based on an information foundation that looks planned, looks logical, and does not look reactive. Reactive in the financial markets means trouble people. This Government is reactive.
We are expecting to hear from Bernanke later today. I'll write the conclusion to this daily piece after he speaks.
Until then, try to
Build Value Every Day
Brad van Siclen
Wednesday, March 18, 2009
This Fed and its Mission - 3 / 18 / 2009
The latest interview of Ben Bernanke which I highlighted in the 3/16 posting said it all, but even the most aggressive pundit could not have predicted yesterday's Fed announcement. Bernanke is really on a tear. He said Sunday that the biggest mistake made by the Fed which led to the Great Depression of the 30's was not forcing liquidity into the markets.
The Fed does this essentially by going into the regional Fed banks' computers and increasing the balances on the regional banks' balance sheets. It then auctions off bonds to any one that will take them at whatever the market rate for the bonds will be. These Bonds are called Treasury Bills and have varied maturities.
Then ultimately the Fed must repay these Bills, and it usually does so by issuing additional bonds in the future, it hopes when the US economy is strong and the faith in the US Economy is sufficient, to issue new Treasury Bonds at better rates. That's like a giant Fed refinancing.
There are no guarantees that this will happen, and no guarantees there will be buyers for them. But so far, with rare exception in my life time, the Buyers have been there and the Fed has been able to refinance itself.
But doesn't this seem to be a bit disturbing? Here we have a bank set up by a vote in Congress attended by very few congressional members in 1913, that essentially has the ability to print money to pay its obligations. And its obligations are covered by you and me in our productivity and in the proceeds of our taxes. Budget short falls at the Federal level are paid for by the US government raising money, primarily through the Fed. And each time this has occurred since we left the Gold Standard, the value of our Dollar becomes less and less.
Some call that inflation. I leaned that way too, until yesterday when in the face of a horrific financial environment created in large part by Fed judgment errors over the course of the Greenspan Fed years, the Fed's only solution is to now print and sell, at any market rate, 1.5 trillion dollars to anyone who will buy them. This, I think boarders on outrageous.
This Fed has now told the entire world that it is deflating the value of the US dollar in order to have the ability to repay its obligations and continue to bail out failed financial institutions. The result of this massive deflationary move will be the devaluing of any and all currencies whose economies rely heavily on the US consumer and the US markets. Which means virtually every world currency. If I were very very liquid I would begin buying gold and Swiss francs immediately.
This level of forced liquidity may feel good in the short run, but if the US economy doesn't return to its former strength and standing in the next 18 months, we as Americans will see near 15% annual inflation rates.
We may not have a choice in the process to recovery, the Fed may not have a choice in its methods for saving the US and the world from a multi year depression. But since most of us are not Russian oil oligarchs, Technology billionaires, Failed US bank CEO's (a bit tongue and cheek), or members of royal families, this Fed move, and it won't be the last, has sealed our collective fates. The US economy must turn around in 18 months or the value of the US Dollar will begin an inevitable run toward $0.50.
Build Value Every Day, and keep in mind the Fed may take half of it.
Brad van Siclen
The Fed does this essentially by going into the regional Fed banks' computers and increasing the balances on the regional banks' balance sheets. It then auctions off bonds to any one that will take them at whatever the market rate for the bonds will be. These Bonds are called Treasury Bills and have varied maturities.
Then ultimately the Fed must repay these Bills, and it usually does so by issuing additional bonds in the future, it hopes when the US economy is strong and the faith in the US Economy is sufficient, to issue new Treasury Bonds at better rates. That's like a giant Fed refinancing.
There are no guarantees that this will happen, and no guarantees there will be buyers for them. But so far, with rare exception in my life time, the Buyers have been there and the Fed has been able to refinance itself.
But doesn't this seem to be a bit disturbing? Here we have a bank set up by a vote in Congress attended by very few congressional members in 1913, that essentially has the ability to print money to pay its obligations. And its obligations are covered by you and me in our productivity and in the proceeds of our taxes. Budget short falls at the Federal level are paid for by the US government raising money, primarily through the Fed. And each time this has occurred since we left the Gold Standard, the value of our Dollar becomes less and less.
Some call that inflation. I leaned that way too, until yesterday when in the face of a horrific financial environment created in large part by Fed judgment errors over the course of the Greenspan Fed years, the Fed's only solution is to now print and sell, at any market rate, 1.5 trillion dollars to anyone who will buy them. This, I think boarders on outrageous.
This Fed has now told the entire world that it is deflating the value of the US dollar in order to have the ability to repay its obligations and continue to bail out failed financial institutions. The result of this massive deflationary move will be the devaluing of any and all currencies whose economies rely heavily on the US consumer and the US markets. Which means virtually every world currency. If I were very very liquid I would begin buying gold and Swiss francs immediately.
This level of forced liquidity may feel good in the short run, but if the US economy doesn't return to its former strength and standing in the next 18 months, we as Americans will see near 15% annual inflation rates.
We may not have a choice in the process to recovery, the Fed may not have a choice in its methods for saving the US and the world from a multi year depression. But since most of us are not Russian oil oligarchs, Technology billionaires, Failed US bank CEO's (a bit tongue and cheek), or members of royal families, this Fed move, and it won't be the last, has sealed our collective fates. The US economy must turn around in 18 months or the value of the US Dollar will begin an inevitable run toward $0.50.
Build Value Every Day, and keep in mind the Fed may take half of it.
Brad van Siclen
Tuesday, March 17, 2009
Ratings Agencies and the Culture of Collusion - 3 / 17 / 2009
Readers, I have included an article at the Bottom of this piece from the Wall Street Journal On-Line Opinion Section on AIG. I will tell you that it in combination with may past writings it draws the key issues and themes on the subject of AIG's bailout and what Investors and American Business owners can learn from this debacle.
So my subject today concerns primarily the mysterious ratings agencies. Standard and Poor's (S&P), Moody's, and Fitch. I have a reasonable direct experience with these groups that dates back to the mid nineties when I socialized with a core group from the mortgaged backed unit of one of these agencies. I also studied under Ed Altman [http://pages.stern.nyu.edu/~ealtman/] who has consulted to and added dramatically to the financial models of one or more of the agencies. The good news is that these agencies risk models across all forms of securities and asset backed instruments tend heavily towards the conservative. More so than Valueline if you can believe that. The bad news is that they are paid by the groups that require their ratings in order to receive 3rd party financing. And the third parties I am speaking of are pension funds, endowments, and mutual funds.
These funds receive(d) investment opportunities from Wall Street on a sometimes daily basis, many carrying a rating from two of these agencies. Of course if an Agency decided to offer a rating on a product an investment bank wanted to sell that was below a rating institutional clients would buy, the deal would not only fail, but so would the relationship and future business between the ratings agencies and that particular wall street product group.
For example, if the Mortgage Backed Assets Investment Banking Group at Lehman Brothers wanted to sell USD 50,000,000 of packaged mortgages held by The Money Store, they would need to receive a A or AA rating on the offering in order to sell it to its University Endowment Funds or its Pension Fund Clients. These fund managers would then rely, on their experience with Lehman's Asset backed group and the rating placed on the securities in the Offering as delivered by 2 of the 3 major ratings agencies in making a decision to invest their client's capital in the offering.
During the 90's Moody's was considered the preferred agency with Fitch and S & P second. Why? well let's just say Moody's was a friendlier agency. But this made the folks that I knew at S & P feel like they were a lesser agency. They were making a bit less money due to their stricter ratings levels, even though they were doing a better ratings job...Great culture on Wall Street, huh?
I'll get into specifics on ratings processes at a later date, but i can tell you that the client was rarely viewed as the issuer (which it was) and normally viewed as the Investment bank (which was not the client). And guess who paid for this - - The Pension Funds and the University Endowments. Now they are not innocent in this either, but I think the conflicts of interest between the issuer, the agency, and the investment banks are the next item that Congress should look at. How could AIG retain a AAA rating for as long as it had? Why is it that ratings agencies downgrade issuers (corporations) after some series of events has compromised their balance sheets and not before the problem is recognized by the capital markets? What service are they really selling here?
Deregulation not only led to abuses in the banking and investment banking systems, it also created a culture on Wall Street and its third party advisers (ratings agencies, accounting firms, law firms) that so long as no one was getting really hurt, however we can cut corners on due diligence and get ourselves paid and bonused was ok. When I write of systemic abuses as they existed on Wall Street, the abuses are truly through out the systems, and this is why 50 percent or more of the world's value created by the Wall Street firms was recently wiped out. There were professionals who shared my perspective but unlike me ran large pools of capital that saw this culture coming to an end and ran for the hills. They began selling into speculative value peaks back in 2006..mainly because the volume, valuations, and volatility in the markets made little sense by historic standards.
So what's the conclusion here? AA and AAA ratings should always be viewed with suspicion as should the words "perfect", "the Best", "The Sage", "brilliant". These adjectives when used in the context of Wall Street firms and professionals have always given me pause. They should give you pause too.
Value is built incrementally and takes time in any industry. The quick buck artists and the guys making high high bonuses are leveraging other professionals value and likely taking very high risks at the expense of the business owners (the shareholders) to do so.
Build Value Every Day - And please read this excellent piece from the Wall Street Journal Opinion section attached below.
From the Wall Street Journal On-Line 3/17/2009
The Real AIG Outrage Article
President Obama joined yesterday in the clamor of outrage at AIG for paying some $165 million in contractually obligated employee bonuses. He and the rest of the political class thus neatly deflected attention from the larger outrage, which is the five-month Beltway cover-up over who benefited most from the AIG bailout.
Taxpayers have already put up $173 billion, or more than a thousand times the amount of those bonuses, to fund the government's AIG "rescue." This federal takeover, never approved by AIG shareholders, uses the firm as a conduit to bail out other institutions. After months of government stonewalling, on Sunday night AIG officially acknowledged where most of the taxpayer funds have been going.
Since September 16, AIG has sent $120 billion in cash, collateral and other payouts to banks, municipal governments and other derivative counterparties around the world. This includes at least $20 billion to European banks. The list also includes American charity cases like Goldman Sachs, which received at least $13 billion. This comes after months of claims by Goldman that all of its AIG bets were adequately hedged and that it needed no "bailout." Why take $13 billion then? This needless cover-up is one reason Americans are getting angrier as they wonder if Washington is lying to them about these bailouts.
* * *
Given that the government has never defined "systemic risk," we're also starting to wonder exactly which system American taxpayers are paying to protect. It's not capitalism, in which risk-takers suffer the consequences of bad decisions. And in some cases it's not even American. The U.S. government is now in the business of distributing foreign aid to offshore financiers, laundered through a once-great American company.
The politicians also prefer to talk about AIG's latest bonus payments because they deflect attention from Washington's failure to supervise AIG. The Beltway crowd has been selling the story that AIG failed because it operated in a shadowy unregulated world and cleverly exploited gaps among Washington overseers. Said President Obama yesterday, "This is a corporation that finds itself in financial distress due to recklessness and greed." That's true, but Washington doesn't want you to know that various arms of government approved, enabled and encouraged AIG's disastrous bet on the U.S. housing market.
Scott Polakoff, acting director of the Office of Thrift Supervision, told the Senate Banking Committee this month that, contrary to media myth, AIG's infamous Financial Products unit did not slip through the regulatory cracks. Mr. Polakoff said that the whole of AIG, including this unit, was regulated by his agency and by a "college" of global bureaucrats.
But what about that supposedly rogue AIG operation in London? Wasn't that outside the reach of federal regulators? Mr. Polakoff called it "a false statement" to say that his agency couldn't regulate the London office.
And his agency wasn't the only federal regulator. AIG's Financial Products unit has been overseen for years by an SEC-approved monitor. And AIG didn't just make disastrous bets on housing using those infamous credit default swaps. AIG made the same stupid bets on housing using money in its securities lending program, which was heavily regulated at the state level. State, foreign and various U.S. federal regulators were all looking over AIG's shoulder and approving the bad housing bets. Americans always pay their mortgages, right? Mr. Polakoff said his agency "should have taken an entirely different approach" in regulating the contracts written by AIG's Financial Products unit.
That's for sure, especially after March of 2005. The housing trouble began -- as most of AIG's troubles did -- when the company's board buckled under pressure from then New York Attorney General Eliot Spitzer when it fired longtime CEO Hank Greenberg. Almost immediately, Fitch took away the company's triple-A credit rating, which allowed it to borrow at cheaper rates. AIG subsequently announced an earnings restatement. The restatement addressed alleged accounting sins that Mr. Spitzer trumpeted initially but later dropped from his civil complaint.
Other elements of the restatement were later reversed by AIG itself. But the damage had been done. The restatement triggered more credit ratings downgrades. Mr. Greenberg's successors seemed to understand that the game had changed, warning in a 2005 SEC filing that a lower credit rating meant the firm would likely have to post more collateral to trading counterparties. But rather than managing risks even more carefully, they went in the opposite direction. Tragically, they did what Mr. Greenberg's AIG never did -- bet big on housing.
Current AIG CEO Ed Liddy was picked by the government in 2008 and didn't create the mess, and he shouldn't be blamed for honoring the firm's lawful bonus contracts. However, it is on Mr. Liddy's watch that AIG has lately been conducting a campaign to stoke fears of "systemic risk." To mute Congressional objections to taxpayer cash infusions, AIG's lobbying materials suggest that taxpayers need to continue subsidizing the insurance giant to avoid economic ruin.
Among the more dubious claims is that AIG policyholders won't be able to purchase the coverage they need. The sweeteners AIG has been offering to retain customers tell a different story. Moreover, getting back to those infamous bonuses, AIG can argue that it needs to pay top dollar to survive in an ultra-competitive business, or it can argue that it offers services not otherwise available in the market, but not both.
* * *
The Washington crowd wants to focus on bonuses because it aims public anger on private actors, not the political class. But our politicians and regulators should direct some of their anger back on themselves -- for kicking off AIG's demise by ousting Mr. Greenberg, for failing to supervise its bets, and then for blowing a mountain of taxpayer cash on their AIG nationalization.
Whether or not these funds ever come back to the Treasury, regulators should now focus on getting AIG back into private hands as soon as possible. And if Treasury and the Fed want to continue bailing out foreign banks, let them make that case, honestly and directly, to American taxpayers.
Please add your comments to the Opinion Journal forum.
So my subject today concerns primarily the mysterious ratings agencies. Standard and Poor's (S&P), Moody's, and Fitch. I have a reasonable direct experience with these groups that dates back to the mid nineties when I socialized with a core group from the mortgaged backed unit of one of these agencies. I also studied under Ed Altman [http://pages.stern.nyu.edu/~ealtman/] who has consulted to and added dramatically to the financial models of one or more of the agencies. The good news is that these agencies risk models across all forms of securities and asset backed instruments tend heavily towards the conservative. More so than Valueline if you can believe that. The bad news is that they are paid by the groups that require their ratings in order to receive 3rd party financing. And the third parties I am speaking of are pension funds, endowments, and mutual funds.
These funds receive(d) investment opportunities from Wall Street on a sometimes daily basis, many carrying a rating from two of these agencies. Of course if an Agency decided to offer a rating on a product an investment bank wanted to sell that was below a rating institutional clients would buy, the deal would not only fail, but so would the relationship and future business between the ratings agencies and that particular wall street product group.
For example, if the Mortgage Backed Assets Investment Banking Group at Lehman Brothers wanted to sell USD 50,000,000 of packaged mortgages held by The Money Store, they would need to receive a A or AA rating on the offering in order to sell it to its University Endowment Funds or its Pension Fund Clients. These fund managers would then rely, on their experience with Lehman's Asset backed group and the rating placed on the securities in the Offering as delivered by 2 of the 3 major ratings agencies in making a decision to invest their client's capital in the offering.
During the 90's Moody's was considered the preferred agency with Fitch and S & P second. Why? well let's just say Moody's was a friendlier agency. But this made the folks that I knew at S & P feel like they were a lesser agency. They were making a bit less money due to their stricter ratings levels, even though they were doing a better ratings job...Great culture on Wall Street, huh?
I'll get into specifics on ratings processes at a later date, but i can tell you that the client was rarely viewed as the issuer (which it was) and normally viewed as the Investment bank (which was not the client). And guess who paid for this - - The Pension Funds and the University Endowments. Now they are not innocent in this either, but I think the conflicts of interest between the issuer, the agency, and the investment banks are the next item that Congress should look at. How could AIG retain a AAA rating for as long as it had? Why is it that ratings agencies downgrade issuers (corporations) after some series of events has compromised their balance sheets and not before the problem is recognized by the capital markets? What service are they really selling here?
Deregulation not only led to abuses in the banking and investment banking systems, it also created a culture on Wall Street and its third party advisers (ratings agencies, accounting firms, law firms) that so long as no one was getting really hurt, however we can cut corners on due diligence and get ourselves paid and bonused was ok. When I write of systemic abuses as they existed on Wall Street, the abuses are truly through out the systems, and this is why 50 percent or more of the world's value created by the Wall Street firms was recently wiped out. There were professionals who shared my perspective but unlike me ran large pools of capital that saw this culture coming to an end and ran for the hills. They began selling into speculative value peaks back in 2006..mainly because the volume, valuations, and volatility in the markets made little sense by historic standards.
So what's the conclusion here? AA and AAA ratings should always be viewed with suspicion as should the words "perfect", "the Best", "The Sage", "brilliant". These adjectives when used in the context of Wall Street firms and professionals have always given me pause. They should give you pause too.
Value is built incrementally and takes time in any industry. The quick buck artists and the guys making high high bonuses are leveraging other professionals value and likely taking very high risks at the expense of the business owners (the shareholders) to do so.
Build Value Every Day - And please read this excellent piece from the Wall Street Journal Opinion section attached below.
From the Wall Street Journal On-Line 3/17/2009
The Real AIG Outrage Article
President Obama joined yesterday in the clamor of outrage at AIG for paying some $165 million in contractually obligated employee bonuses. He and the rest of the political class thus neatly deflected attention from the larger outrage, which is the five-month Beltway cover-up over who benefited most from the AIG bailout.
Taxpayers have already put up $173 billion, or more than a thousand times the amount of those bonuses, to fund the government's AIG "rescue." This federal takeover, never approved by AIG shareholders, uses the firm as a conduit to bail out other institutions. After months of government stonewalling, on Sunday night AIG officially acknowledged where most of the taxpayer funds have been going.
Since September 16, AIG has sent $120 billion in cash, collateral and other payouts to banks, municipal governments and other derivative counterparties around the world. This includes at least $20 billion to European banks. The list also includes American charity cases like Goldman Sachs, which received at least $13 billion. This comes after months of claims by Goldman that all of its AIG bets were adequately hedged and that it needed no "bailout." Why take $13 billion then? This needless cover-up is one reason Americans are getting angrier as they wonder if Washington is lying to them about these bailouts.
* * *
Given that the government has never defined "systemic risk," we're also starting to wonder exactly which system American taxpayers are paying to protect. It's not capitalism, in which risk-takers suffer the consequences of bad decisions. And in some cases it's not even American. The U.S. government is now in the business of distributing foreign aid to offshore financiers, laundered through a once-great American company.
The politicians also prefer to talk about AIG's latest bonus payments because they deflect attention from Washington's failure to supervise AIG. The Beltway crowd has been selling the story that AIG failed because it operated in a shadowy unregulated world and cleverly exploited gaps among Washington overseers. Said President Obama yesterday, "This is a corporation that finds itself in financial distress due to recklessness and greed." That's true, but Washington doesn't want you to know that various arms of government approved, enabled and encouraged AIG's disastrous bet on the U.S. housing market.
Scott Polakoff, acting director of the Office of Thrift Supervision, told the Senate Banking Committee this month that, contrary to media myth, AIG's infamous Financial Products unit did not slip through the regulatory cracks. Mr. Polakoff said that the whole of AIG, including this unit, was regulated by his agency and by a "college" of global bureaucrats.
But what about that supposedly rogue AIG operation in London? Wasn't that outside the reach of federal regulators? Mr. Polakoff called it "a false statement" to say that his agency couldn't regulate the London office.
And his agency wasn't the only federal regulator. AIG's Financial Products unit has been overseen for years by an SEC-approved monitor. And AIG didn't just make disastrous bets on housing using those infamous credit default swaps. AIG made the same stupid bets on housing using money in its securities lending program, which was heavily regulated at the state level. State, foreign and various U.S. federal regulators were all looking over AIG's shoulder and approving the bad housing bets. Americans always pay their mortgages, right? Mr. Polakoff said his agency "should have taken an entirely different approach" in regulating the contracts written by AIG's Financial Products unit.
That's for sure, especially after March of 2005. The housing trouble began -- as most of AIG's troubles did -- when the company's board buckled under pressure from then New York Attorney General Eliot Spitzer when it fired longtime CEO Hank Greenberg. Almost immediately, Fitch took away the company's triple-A credit rating, which allowed it to borrow at cheaper rates. AIG subsequently announced an earnings restatement. The restatement addressed alleged accounting sins that Mr. Spitzer trumpeted initially but later dropped from his civil complaint.
Other elements of the restatement were later reversed by AIG itself. But the damage had been done. The restatement triggered more credit ratings downgrades. Mr. Greenberg's successors seemed to understand that the game had changed, warning in a 2005 SEC filing that a lower credit rating meant the firm would likely have to post more collateral to trading counterparties. But rather than managing risks even more carefully, they went in the opposite direction. Tragically, they did what Mr. Greenberg's AIG never did -- bet big on housing.
Current AIG CEO Ed Liddy was picked by the government in 2008 and didn't create the mess, and he shouldn't be blamed for honoring the firm's lawful bonus contracts. However, it is on Mr. Liddy's watch that AIG has lately been conducting a campaign to stoke fears of "systemic risk." To mute Congressional objections to taxpayer cash infusions, AIG's lobbying materials suggest that taxpayers need to continue subsidizing the insurance giant to avoid economic ruin.
Among the more dubious claims is that AIG policyholders won't be able to purchase the coverage they need. The sweeteners AIG has been offering to retain customers tell a different story. Moreover, getting back to those infamous bonuses, AIG can argue that it needs to pay top dollar to survive in an ultra-competitive business, or it can argue that it offers services not otherwise available in the market, but not both.
* * *
The Washington crowd wants to focus on bonuses because it aims public anger on private actors, not the political class. But our politicians and regulators should direct some of their anger back on themselves -- for kicking off AIG's demise by ousting Mr. Greenberg, for failing to supervise its bets, and then for blowing a mountain of taxpayer cash on their AIG nationalization.
Whether or not these funds ever come back to the Treasury, regulators should now focus on getting AIG back into private hands as soon as possible. And if Treasury and the Fed want to continue bailing out foreign banks, let them make that case, honestly and directly, to American taxpayers.
Please add your comments to the Opinion Journal forum.
Monday, March 16, 2009
Where Chairman Bernake Adds Value - 3 / 16 / 2009
You want to know how bad our economy is? Here is the answer..So bad that the Fed Chairman Ben Benanke and most certainly President Obama decided he better give an interview to the American people, not their congressional representatives as was tradition until last night. Why would Bernanke risk the Fed's reputation and the inevitable market response by going on 60 Minutes this past Sunday night? We'll get to that answer. But for now let's take a minute to discuss what I like about this Chairman.
He is good at plain english. He is does not use jumbled prose approved by lawyers when answering questions. He addresses the financial markets with a consistent message, like it or not, and it would seem with reasonable honesty. He has no opinion, other than he believes in the ability of the US financial system to mend itself and become stronger over time. Leadership and consistency are the two main ways a chairman or CEO can add value to any enterprise be it a small company or the largest economy in the world.
We received none of this from Greenspan. Recall when CNBC thought it was part of the game to decipher Greenspeak? What they and the WSJ should have been doing was calling for Greenspan to speak plainly to the world and to our business leaders. Certainly after his second major economic bubble fiasco there can be no doubt as to why he spoke so mysteriously to congress. The result of Greenspeak was that Congress and the financial media spent more time trying to interpret what he said, and less time predicting the results of the Fed's decisions under Greenspan. Greenspan knew he had made mistakes, and under his leadership he chose other mistakes to fix them. The Fed under Greenspan gamed the American system. They hoped that the financial system, when given enough get rich opportunities, would create its own solutions to the systemic problems it created. We discovered this recently when Greenspan stated "We thought they would regulate themselves." Unbelievable. It was as if he was trying to prove he was more clever than every other financial professional each time he testified.
In all honesty, the greater business minds I know were always very suspect about the Fed's policies since 1998 and the "soft landing".
So why has Bernanke decided its ok for him to do a prime time interview? First it's because this man knows that he himself is a terrible liar, he's definitely not a salesman, and so his style can only convey honesty to the public. It also conveys that transparent disclosure policy that the President has been a champion of. I don't know Bernanke yet, but I do know a great many great economic and business thinkers, and his style - straight, unemotional talk, comes from years of economic discipline and study combined with real world successful application. I suspect that if we looked into his policy writings during his time under Greenspan, we would find that he was both very accurate and very simple to understand. The best leaders have the ability to distill the simple, most valued truths from complex ideas and in so doing give direction to their employees for implementation.
Did Bernanke accomplish this last night? Here are his most important quotes:
"..No doubt the unemployment rate is going to go higher than it is, but i think again if we do succeed in stabilizing the financial system we will begin to see a slower pace of decline and eventually a stabilization that will set the basis for a recovery"
speaking on the Fed itself, "It's an institution that the people don't hear much about, but it's a very important one. It manages monetary policy for the country, its one of the main tools we have for managing our economy and keeping our prices stable....its original purpose was to deal with financial crisis which is what we are dealing with right now."
"The Fed can not put money into companies. It can only lend money against assets."
"In October I spoke to a congressman who said to me that bankers and business owners in his district were no seeing the problems that [secretary Paulson] and I were addressing. And I turned to him and said, They will."
"[The Fed] has been effectively printing money and we need to do that because our economy is very weak and inflation is very low. When the economy begins to recover ....that will be the time we need to reduce the money supply, raise interest rates, to ensure we have a recovery that does not involve inflation."
I believe that Bernanke accomplished the mission of a good leader in times of crisis. Tell the bad, tell the good, be honest to a fault. This becomes the infrastructure for businesses and employees to build on once again. I'll note I was pleased to hear him say that with regard to AIG and other financial institutions recieving huge government aid (citigroup) this Fsed will begin calling its loans when these companies have stabilized and then require the sales of assets and subsidiaries to pay back those loans.
Essentially this is the model vulture or distressed investors use. Invest in companies at deep deep historic discounts. Next determine which parts of the business are valuable. Wait until the business stabilizes and then sell off these parts of the business to recoup the invested / loaned amount. Hopefully leaving a better managed, more focused enterprise in which the investors can participate in the upside value that comes with business growth. The difference of course is that the Fed can print money that ensures they won't be diluted by money invested in subsequent financing rounds should it take much longer than anticipated to restructure and make valuable these businesses.
The Fed - Building Value every day? - If congress lets them I think they will.
Brad van Siclen.
He is good at plain english. He is does not use jumbled prose approved by lawyers when answering questions. He addresses the financial markets with a consistent message, like it or not, and it would seem with reasonable honesty. He has no opinion, other than he believes in the ability of the US financial system to mend itself and become stronger over time. Leadership and consistency are the two main ways a chairman or CEO can add value to any enterprise be it a small company or the largest economy in the world.
We received none of this from Greenspan. Recall when CNBC thought it was part of the game to decipher Greenspeak? What they and the WSJ should have been doing was calling for Greenspan to speak plainly to the world and to our business leaders. Certainly after his second major economic bubble fiasco there can be no doubt as to why he spoke so mysteriously to congress. The result of Greenspeak was that Congress and the financial media spent more time trying to interpret what he said, and less time predicting the results of the Fed's decisions under Greenspan. Greenspan knew he had made mistakes, and under his leadership he chose other mistakes to fix them. The Fed under Greenspan gamed the American system. They hoped that the financial system, when given enough get rich opportunities, would create its own solutions to the systemic problems it created. We discovered this recently when Greenspan stated "We thought they would regulate themselves." Unbelievable. It was as if he was trying to prove he was more clever than every other financial professional each time he testified.
In all honesty, the greater business minds I know were always very suspect about the Fed's policies since 1998 and the "soft landing".
So why has Bernanke decided its ok for him to do a prime time interview? First it's because this man knows that he himself is a terrible liar, he's definitely not a salesman, and so his style can only convey honesty to the public. It also conveys that transparent disclosure policy that the President has been a champion of. I don't know Bernanke yet, but I do know a great many great economic and business thinkers, and his style - straight, unemotional talk, comes from years of economic discipline and study combined with real world successful application. I suspect that if we looked into his policy writings during his time under Greenspan, we would find that he was both very accurate and very simple to understand. The best leaders have the ability to distill the simple, most valued truths from complex ideas and in so doing give direction to their employees for implementation.
Did Bernanke accomplish this last night? Here are his most important quotes:
"..No doubt the unemployment rate is going to go higher than it is, but i think again if we do succeed in stabilizing the financial system we will begin to see a slower pace of decline and eventually a stabilization that will set the basis for a recovery"
speaking on the Fed itself, "It's an institution that the people don't hear much about, but it's a very important one. It manages monetary policy for the country, its one of the main tools we have for managing our economy and keeping our prices stable....its original purpose was to deal with financial crisis which is what we are dealing with right now."
"The Fed can not put money into companies. It can only lend money against assets."
"In October I spoke to a congressman who said to me that bankers and business owners in his district were no seeing the problems that [secretary Paulson] and I were addressing. And I turned to him and said, They will."
"[The Fed] has been effectively printing money and we need to do that because our economy is very weak and inflation is very low. When the economy begins to recover ....that will be the time we need to reduce the money supply, raise interest rates, to ensure we have a recovery that does not involve inflation."
I believe that Bernanke accomplished the mission of a good leader in times of crisis. Tell the bad, tell the good, be honest to a fault. This becomes the infrastructure for businesses and employees to build on once again. I'll note I was pleased to hear him say that with regard to AIG and other financial institutions recieving huge government aid (citigroup) this Fsed will begin calling its loans when these companies have stabilized and then require the sales of assets and subsidiaries to pay back those loans.
Essentially this is the model vulture or distressed investors use. Invest in companies at deep deep historic discounts. Next determine which parts of the business are valuable. Wait until the business stabilizes and then sell off these parts of the business to recoup the invested / loaned amount. Hopefully leaving a better managed, more focused enterprise in which the investors can participate in the upside value that comes with business growth. The difference of course is that the Fed can print money that ensures they won't be diluted by money invested in subsequent financing rounds should it take much longer than anticipated to restructure and make valuable these businesses.
The Fed - Building Value every day? - If congress lets them I think they will.
Brad van Siclen.
Friday, March 13, 2009
Don't be Caught in a Bear Rally - 3 / 13/ 2009
I won't pontificate today. There are very simple ways to protect yourself from being caught in a classic bear trap or bear market rally. I don't know if this is one, my bet is that it is, but I don't know for certain, and no one else knows for certain either. If you listen to the pundits, the "experts" on the 3 financial channels this morning (CNBC, FOX Business, Bloomberg) its a mixed bag. Interviews of traders on the floor of the NYSE are returning answers like, "It's a bit early to tell." and "I don't know which way we are headed." It really amazes me. And frankly if I hear another softball interview done by any of these channels of Pandit, Dimon, or Lewis I may start a new anti financial media website.
Readers, it's times like these we need an expert. And unfortunately Wall Street has been defining expertise as the people who bring the most fees into the firm. Not to the people who actually have an ability to determine with reasonable accuracy which way the market or a particular issue will move over the next month. I am telling you there are no "experts" left.
So its up to you to make a decision. Are you a technical buyer of stocks or are you a fundamental buyer of stocks? Longer term readers will know that the fundamental and relative value investors are the only players that make money over the long haul. And unless you are earning a 2% carry on funds you manage plus a 20% take on profits generated, you should be doing the same.
Sharp upside moves in the markets or in particular industries that apply to all major players in an industry are almost always examples of short covering. Why would Citi move up on a percentage basis similarly to Wells Fargo this week? Are they similar companies with similar risk profiles right now? Of course not. Why would all construction machinery manufacturers share the same 5 day chart patterns? Has the outlook for new major construction projects world wide improved by 20% in the last 5 days? You know the answer. (It's "No".)
We need to remember that share prices have always and will always be valued based upon the expected quality of their future earnings. And frankly every other metric or ratio or chart analysis model is really a fancy way of justifying current prices paid for a stock that is in speculation mode. Ask yourself as an investor of your own money, After the past year, do you feel comfortable paying a price per share of any company that is equal to the estimated next 15 or 19 years worth of earnings? Because if you buy a share of a company's stock when its price is 19.0x earnings, that is exactly what you have done.
Instead start by asking yourself, do you like a particular industry. Then look at the companies in that industry. Of the 5 or 6 largest ones that have shown profits in the last 3 years, which one is trading at a lower multiple than the others. That's the one you look at, not because it has the greatest price upside potential, but because it is the greatest protector of your principal. And you can not compound your earnings in the stock market unless your protect your principal investment first.
If you think and invest like a speculator. If you believe what the Wall Street "experts" tell you, that you must always be in the market or you will miss the upside then ultimately you will participate in the downside too. Market returns over the last 5 years have been negative folks. How many times in that period have you heard buy, buy, buy from the "experts'? How many times have you heard sell? (hint: market professionals don't want you to sell before they do.)
Here's another suggestion, Turn off the TV. Spend 10 minutes with a reasonable, objective information source, (Yahoo Finance, or the SEC filings site, or with Valueline as examples). Choose an industry you like, review the top few companies in that industry, and invest in the one that appears to be trading at a discount to the group. That's how you protect yourself best from the short term swings in the general markets. Like Bear rallies.
We'll cover more on picking good companies to invest in in future editions.
Build Value Every Day.
Brad van Siclen
Readers, it's times like these we need an expert. And unfortunately Wall Street has been defining expertise as the people who bring the most fees into the firm. Not to the people who actually have an ability to determine with reasonable accuracy which way the market or a particular issue will move over the next month. I am telling you there are no "experts" left.
So its up to you to make a decision. Are you a technical buyer of stocks or are you a fundamental buyer of stocks? Longer term readers will know that the fundamental and relative value investors are the only players that make money over the long haul. And unless you are earning a 2% carry on funds you manage plus a 20% take on profits generated, you should be doing the same.
Sharp upside moves in the markets or in particular industries that apply to all major players in an industry are almost always examples of short covering. Why would Citi move up on a percentage basis similarly to Wells Fargo this week? Are they similar companies with similar risk profiles right now? Of course not. Why would all construction machinery manufacturers share the same 5 day chart patterns? Has the outlook for new major construction projects world wide improved by 20% in the last 5 days? You know the answer. (It's "No".)
We need to remember that share prices have always and will always be valued based upon the expected quality of their future earnings. And frankly every other metric or ratio or chart analysis model is really a fancy way of justifying current prices paid for a stock that is in speculation mode. Ask yourself as an investor of your own money, After the past year, do you feel comfortable paying a price per share of any company that is equal to the estimated next 15 or 19 years worth of earnings? Because if you buy a share of a company's stock when its price is 19.0x earnings, that is exactly what you have done.
Instead start by asking yourself, do you like a particular industry. Then look at the companies in that industry. Of the 5 or 6 largest ones that have shown profits in the last 3 years, which one is trading at a lower multiple than the others. That's the one you look at, not because it has the greatest price upside potential, but because it is the greatest protector of your principal. And you can not compound your earnings in the stock market unless your protect your principal investment first.
If you think and invest like a speculator. If you believe what the Wall Street "experts" tell you, that you must always be in the market or you will miss the upside then ultimately you will participate in the downside too. Market returns over the last 5 years have been negative folks. How many times in that period have you heard buy, buy, buy from the "experts'? How many times have you heard sell? (hint: market professionals don't want you to sell before they do.)
Here's another suggestion, Turn off the TV. Spend 10 minutes with a reasonable, objective information source, (Yahoo Finance, or the SEC filings site, or with Valueline as examples). Choose an industry you like, review the top few companies in that industry, and invest in the one that appears to be trading at a discount to the group. That's how you protect yourself best from the short term swings in the general markets. Like Bear rallies.
We'll cover more on picking good companies to invest in in future editions.
Build Value Every Day.
Brad van Siclen
Thursday, March 12, 2009
Why Madoff Matters, the Value of Quality Regulation - 3 / 12 / 2009
Those of us that are forced by our selected news sources, be they financial or otherwise, to wait for the Madoff hearing results should be warmed by the fact that this matter will actually move us all closer to proper, more consistent regulation. That means the rules governing business in America will move one step closer to equality across the board. And I believe that the greatest value to regulation of business and financial practice is that it brings us closer to a truly free market environment.
Now champions of Adam Smith and his 'invisible hand", Ron Paul and Steve Forbes (both super shrewd guys) as modern day examples, would argue that government regulation and oversight is bad. What they really meant was that the current version of government regulation and oversight is bad.
Let me explain using Wall Street as an example. Most folks think that FINRA and the SEC watch the backs of independent investors. But the truth is the system is designed to protect the big guy first, and small investor second. I won't cover all elements of this statement today, but I will use the subject of standard regulatory review process as the theme.
Madoff Securities was permitted by the SEC and the NASD to fool the system for two reasons. The first is that he was a founder and former head of NASDAQ. Secondly, he had a seperate clearing / trading operation (seperate from Madoff Securities the culprit of the ponzi) and it was compliant with SEC disclosure regulations.
Now in my former capacity of Managing Director of investment banking at a 500 man Broad Street based investment bank, and in my consulting roles for other broker dealers, I have ample experience in the way the SEC and the NASD deal with financial institutions of different sizes and reputation. Here is their standard review process. To put it simply, each group, upon entering the premises for a special or annual review presents the firm's head compliance officer with a list of document requests that include investment banking transactions, trading and sales runs, and research examples. A random sampling is then selected from the information provided, and this sampling becomes the basis for the audit process.
Think about how easy, in the case of Madoff Securities, it would have been to pull one account's trading history and run an audit (trace the trades and monetary flow with the clearing institutions) and immediately see that there was a problem. When SEC and NASD professionals find a problem, they then look for a repetition of that same problem in the account being reviewed and then for the same problem in other accounts as well. This first step is done via the internet and can be effected in 20 minutes. 20 minutes. So the only explanation for the NASD and SEC both missing this simple and required process is that they didn't miss it at all. They made an internal decision to allow Madoff Securities to pay fines for 'inaccurate' or lax reporting standards and moved on. Madoff Securities likely had very few if any customer complaints, so why would these regulators want to openly audit Madoff Securities? Madoff securities would simply pay a fine, which is common practice, and move on.
I will tell you that smaller firms generally keep much better records and abide by rules more stringently because they do not have the spare cash available to pay the fines levied by the regulators as a penalty for findings of lax standards or violations. But it is also true that smaller firms, in my experience, are inevitably going to be fined for lax standards. The larger firms, former bulge bracket firms, are so well capitalized that they have their internal legal team monetarily settle out any violations as quickly as possible without admitting or denying the event ever took place.
Special treatment would be afforded the titans of industry, AIG, Citigroup, and Madoff as examples. They, on the outside, would have appeared to be disclosing accurately. These are highly talented and experienced institutions who are big parts of the financial industry. They know what regulators want and they deliver it, whether accurate or not.
And inevitably, this system which grants passes to industry giants while appearing to actively enforce regulations on small and mid sized financial institutions created an environment which allows for Madoffs, Citibanks, and AIGs to take advantage of institutional and individual market participants for decades without real penalty. The more these implosion events occur, the more the SEC and NASD will be required to treat all participants equally. And that consistency creates a foundation for a level playing field and maybe even a "free" market that Paul and Forbes would be pleased with.
Knowledge is value too - Build Value Every Day.
Brad van Siclen
Now champions of Adam Smith and his 'invisible hand", Ron Paul and Steve Forbes (both super shrewd guys) as modern day examples, would argue that government regulation and oversight is bad. What they really meant was that the current version of government regulation and oversight is bad.
Let me explain using Wall Street as an example. Most folks think that FINRA and the SEC watch the backs of independent investors. But the truth is the system is designed to protect the big guy first, and small investor second. I won't cover all elements of this statement today, but I will use the subject of standard regulatory review process as the theme.
Madoff Securities was permitted by the SEC and the NASD to fool the system for two reasons. The first is that he was a founder and former head of NASDAQ. Secondly, he had a seperate clearing / trading operation (seperate from Madoff Securities the culprit of the ponzi) and it was compliant with SEC disclosure regulations.
Now in my former capacity of Managing Director of investment banking at a 500 man Broad Street based investment bank, and in my consulting roles for other broker dealers, I have ample experience in the way the SEC and the NASD deal with financial institutions of different sizes and reputation. Here is their standard review process. To put it simply, each group, upon entering the premises for a special or annual review presents the firm's head compliance officer with a list of document requests that include investment banking transactions, trading and sales runs, and research examples. A random sampling is then selected from the information provided, and this sampling becomes the basis for the audit process.
Think about how easy, in the case of Madoff Securities, it would have been to pull one account's trading history and run an audit (trace the trades and monetary flow with the clearing institutions) and immediately see that there was a problem. When SEC and NASD professionals find a problem, they then look for a repetition of that same problem in the account being reviewed and then for the same problem in other accounts as well. This first step is done via the internet and can be effected in 20 minutes. 20 minutes. So the only explanation for the NASD and SEC both missing this simple and required process is that they didn't miss it at all. They made an internal decision to allow Madoff Securities to pay fines for 'inaccurate' or lax reporting standards and moved on. Madoff Securities likely had very few if any customer complaints, so why would these regulators want to openly audit Madoff Securities? Madoff securities would simply pay a fine, which is common practice, and move on.
I will tell you that smaller firms generally keep much better records and abide by rules more stringently because they do not have the spare cash available to pay the fines levied by the regulators as a penalty for findings of lax standards or violations. But it is also true that smaller firms, in my experience, are inevitably going to be fined for lax standards. The larger firms, former bulge bracket firms, are so well capitalized that they have their internal legal team monetarily settle out any violations as quickly as possible without admitting or denying the event ever took place.
Special treatment would be afforded the titans of industry, AIG, Citigroup, and Madoff as examples. They, on the outside, would have appeared to be disclosing accurately. These are highly talented and experienced institutions who are big parts of the financial industry. They know what regulators want and they deliver it, whether accurate or not.
And inevitably, this system which grants passes to industry giants while appearing to actively enforce regulations on small and mid sized financial institutions created an environment which allows for Madoffs, Citibanks, and AIGs to take advantage of institutional and individual market participants for decades without real penalty. The more these implosion events occur, the more the SEC and NASD will be required to treat all participants equally. And that consistency creates a foundation for a level playing field and maybe even a "free" market that Paul and Forbes would be pleased with.
Knowledge is value too - Build Value Every Day.
Brad van Siclen
Tuesday, March 10, 2009
Current Problems in Mark to Market Accounting - 3 / 10 / 2009
We are in what some consider to be the worst financial crisis in US History. Many elements previously discussed on this site would be classified either the causes or effects of this crisis. But as we continue to peal back the layers of this crisis, there is one certain phrase that continues to appear, "Mark - to - Market" accounting. What does this actually mean?
FASB and the SEC state that a company must value and state its assets at current or "fair" market value. These changes in asset value must be reported quarterly and audited annually. However, the highest value you are able to report during the entire ownership of the asset is the purchase price. Gains can only be reported after a sale.
So if you have an office building (in a good market of course) that you purchased in 1995 for $2.0 million whose current fair market value if sold would be $10.0 million, that increase in value can not be applied to the assets on your balances sheet. BUT should the value, by fair market accounting standards, reduce at any time during its holding, that unrealized loss, say $500,000 must be expensed through your income statement.
For most companies, this is not an issue because they depreciate the asset over time and therefore can argue that they have expensed the declining asset value sufficiently to guide investors as to the true value of their shareholdings.
But for Banks and Investment Banks that bought speculative asset backed financial instruments that were paying them higher interest payments than they otherwise could have earned with less speculative investments, a down market and a requirement to write down those assets to fair value can be catastrophic. Why? Because as the assets on the balance sheets of banks erode, they reduce the overall net capital (or liquid equity) required to be in place by the US Government in order to be considered "solvent". Equity is determined by Assets - Liabilities. If assets are written down dramatically, you can see how a bank moves closer to or becomes insolvent very quickly.
You can now understand why banks want a suspension of mark to market accounting. Essentially they are asking the government to not recognize bad investment decisions or bad balance sheet management decisions. This way they are able to continue to do business while ignoring their asset values in declining markets making additional government solvency loans (TARP and BAILOUTS) not as necessary, and ultimately allowing them to further leverage their balance sheets in extending business and consumer loans.
Recently, Roubini of NYU Business fame stated that by traditional standards, the top 4 US banks were insolvent. The solution to this insolvency offered by our current banking officers, suspend mark to market accounting.
I hope this strikes you the same it strikes me, the banking officials greatly responsible for the current credit market crisis due to over leveraging of risky assets in an attempt in increase profitability, are now suggesting that the answer is more of the same.
You operate your business and personal lives recognizing that there are risks inherent in assuming debt that future cash flows must cover. You are required to report your losses from investments as they occur. You are the owner, and you recognize that insolvency means total loss of all that you have built. So you are sure that you manage your risks appropriately. Officers of Publicly traded banks it would seem do not have to manage their risks appropriately.
High risk means high return in good economic times. Their bonuses in good economic times are so large, that failure in the future is meaningless to their personal security. These officers, for the most part, have built nothing. They are the stars promoted from middle management. They rarely if ever took risks then. But in 2005 - 2007, newly promoted to executive level, they took huge risks because their personal payouts were huge for taking those risks and succeeding. Guess what, these risks were taken at the expense of their shareholder's futures. And the current crisis is the result.
And their solution is - - -Let us do it again, suspend or eliminate mark to market accounting.
They have no interest in building value. They want to leverage value. When a President or CEO begins to leverage value in order to increase current income it is the first sign that the business has stopped growing. Recognize when you are doing it with your business.
Build value every day.
Brad van Siclen
FASB and the SEC state that a company must value and state its assets at current or "fair" market value. These changes in asset value must be reported quarterly and audited annually. However, the highest value you are able to report during the entire ownership of the asset is the purchase price. Gains can only be reported after a sale.
So if you have an office building (in a good market of course) that you purchased in 1995 for $2.0 million whose current fair market value if sold would be $10.0 million, that increase in value can not be applied to the assets on your balances sheet. BUT should the value, by fair market accounting standards, reduce at any time during its holding, that unrealized loss, say $500,000 must be expensed through your income statement.
For most companies, this is not an issue because they depreciate the asset over time and therefore can argue that they have expensed the declining asset value sufficiently to guide investors as to the true value of their shareholdings.
But for Banks and Investment Banks that bought speculative asset backed financial instruments that were paying them higher interest payments than they otherwise could have earned with less speculative investments, a down market and a requirement to write down those assets to fair value can be catastrophic. Why? Because as the assets on the balance sheets of banks erode, they reduce the overall net capital (or liquid equity) required to be in place by the US Government in order to be considered "solvent". Equity is determined by Assets - Liabilities. If assets are written down dramatically, you can see how a bank moves closer to or becomes insolvent very quickly.
You can now understand why banks want a suspension of mark to market accounting. Essentially they are asking the government to not recognize bad investment decisions or bad balance sheet management decisions. This way they are able to continue to do business while ignoring their asset values in declining markets making additional government solvency loans (TARP and BAILOUTS) not as necessary, and ultimately allowing them to further leverage their balance sheets in extending business and consumer loans.
Recently, Roubini of NYU Business fame stated that by traditional standards, the top 4 US banks were insolvent. The solution to this insolvency offered by our current banking officers, suspend mark to market accounting.
I hope this strikes you the same it strikes me, the banking officials greatly responsible for the current credit market crisis due to over leveraging of risky assets in an attempt in increase profitability, are now suggesting that the answer is more of the same.
You operate your business and personal lives recognizing that there are risks inherent in assuming debt that future cash flows must cover. You are required to report your losses from investments as they occur. You are the owner, and you recognize that insolvency means total loss of all that you have built. So you are sure that you manage your risks appropriately. Officers of Publicly traded banks it would seem do not have to manage their risks appropriately.
High risk means high return in good economic times. Their bonuses in good economic times are so large, that failure in the future is meaningless to their personal security. These officers, for the most part, have built nothing. They are the stars promoted from middle management. They rarely if ever took risks then. But in 2005 - 2007, newly promoted to executive level, they took huge risks because their personal payouts were huge for taking those risks and succeeding. Guess what, these risks were taken at the expense of their shareholder's futures. And the current crisis is the result.
And their solution is - - -Let us do it again, suspend or eliminate mark to market accounting.
They have no interest in building value. They want to leverage value. When a President or CEO begins to leverage value in order to increase current income it is the first sign that the business has stopped growing. Recognize when you are doing it with your business.
Build value every day.
Brad van Siclen
Monday, March 9, 2009
AIG a Passthrough for Goldman, Merrill 3 / 9 / 2009
Well readers, there is really not much value to report concerning AIG. I am not a conspiracy theorist, but this one makes me wonder. Last week the US government put an additional $85 Billion into the ailing company. That brought their total pledged amount to $160 Billion. These amounts were originally to satisfy balance sheet liquidity requirements. Indeed in AIG's testimony to congress, "federal liquidity requirements" were used as the rationale for the loan. (and let's face it, this is no loan, in its best year (2006) the company reported 23.0 billion EBITDA, but 2007 and 2005 show a more likely 12.0 billion Edita. So in 13 years (at previous solvent balance sheet levels) the government will make its principal back. Anyone care to bet on that happening?
This scenario is akin to me asking my 12 year old to insure my losses with her liquid assets. Not one financial group that had its losses insured by AIG looked past the AAA rating. These are the experts who built their financial future on AIG's balance sheet and Moody's / S & P's ratings.
So where did this 160 billion loan "pledged" by the government go? The AIG CFO said, " the vast majority of tax payer funds have passed through AIG to other financial institutions." Those institutions include Bank America and Goldman Sachs. Bank America and Goldman Sachs. These are the same banks that lobbied the government back in the Fall to halt the short selling of financial stocks for 30 days. This after their traders (Merrill Lynch in the case of BofA) had earned huge profits shorting Bear Sterns and Lehman. Then the market's turned on them and they were able, under Paulson (the former Goldman chief, then Treasury Secretary), to stop the shorting of financial stocks (including their stock). Oh, and to take advantage of TARP funds and Government stimulus they switched their businesses licenses from Investment licences to Commercial banking Licences.
So the AIG bailout is really just a way to conduit MORE funds to BofA and Goldman. (yes that's an over simplification.) But these are firms that did NO homework on the liquidity of the AIG balance sheets when they paid AIG to insure certain of their key investment risks. These so called experts are permitted to take advantage of the system every where they turn to protect or off set their bad investment decisions. WE do not.
Is it a conspiracy? No. Unfortunately, our current government has neither the experience, nor the guts to pull off that kind of maneuver. Was there favoritism, most certainly. Is this a problem? In a free market, yes. It says to investors that there is no level playing field. That the rules can and will change to suit the big boys. So why then would any one invest in stocks? Scary thought.
So what value can we take from this? Your financial partners (AIG was to Goldman and BofA) must be highly scrutinized. If you need to insure your business risk, other than act of God insurance, the risk in the transaction is too much. And finally, do your own homework and use some common sense.
Build value every day.
Brad van Siclen
This scenario is akin to me asking my 12 year old to insure my losses with her liquid assets. Not one financial group that had its losses insured by AIG looked past the AAA rating. These are the experts who built their financial future on AIG's balance sheet and Moody's / S & P's ratings.
So where did this 160 billion loan "pledged" by the government go? The AIG CFO said, " the vast majority of tax payer funds have passed through AIG to other financial institutions." Those institutions include Bank America and Goldman Sachs. Bank America and Goldman Sachs. These are the same banks that lobbied the government back in the Fall to halt the short selling of financial stocks for 30 days. This after their traders (Merrill Lynch in the case of BofA) had earned huge profits shorting Bear Sterns and Lehman. Then the market's turned on them and they were able, under Paulson (the former Goldman chief, then Treasury Secretary), to stop the shorting of financial stocks (including their stock). Oh, and to take advantage of TARP funds and Government stimulus they switched their businesses licenses from Investment licences to Commercial banking Licences.
So the AIG bailout is really just a way to conduit MORE funds to BofA and Goldman. (yes that's an over simplification.) But these are firms that did NO homework on the liquidity of the AIG balance sheets when they paid AIG to insure certain of their key investment risks. These so called experts are permitted to take advantage of the system every where they turn to protect or off set their bad investment decisions. WE do not.
Is it a conspiracy? No. Unfortunately, our current government has neither the experience, nor the guts to pull off that kind of maneuver. Was there favoritism, most certainly. Is this a problem? In a free market, yes. It says to investors that there is no level playing field. That the rules can and will change to suit the big boys. So why then would any one invest in stocks? Scary thought.
So what value can we take from this? Your financial partners (AIG was to Goldman and BofA) must be highly scrutinized. If you need to insure your business risk, other than act of God insurance, the risk in the transaction is too much. And finally, do your own homework and use some common sense.
Build value every day.
Brad van Siclen
Thursday, March 5, 2009
What Wal-Mart is Really Telling Us 3 / 5 / 2009
From CNBC -"Wal-Mart, the world's largest retailer, posted a better-than-expected 5.1 percent increase in sales at stores open at least one year, sending its shares up 3 percent in premarket trading. "We believe falling gas prices significantly boosted household disposable income in February and therefore allowed for both more trips and more spending toward discretionary categories," Wal-Mart Vice Chairman Eduardo Castro-Wright said."
Still from CNBC - "U.S. consumers have suffered in the past year from job losses, tighter credit and a weak housing market -- factors that have forced them to conserve money by shopping at discount stores and sticking to basic purchases like food."
Ever been to Wal-Mart? I'll take a wild guess and say that you have. It's at least 20 minutes further away than is your local super market. And US Consumers have decided that the deals there are worth the trip.
This, contrary to Wal-Mart and some Wall Street statements, does not suggest that the Consumer is stronger than we thought. It means quite the opposite. The Consumer is trying to maintain its life style by shopping at the king of discount stores. This result to me is identical to the recent report from Pep Boys - better than expected sales - It says that Consumers are still pulling in the spending reins. Wal-Mart and Pep Boys are lagging indicators.
Do not be fooled by Wal-Mart's positive reports. When they report declining Sales or lower than expected earnings that is when we will know the economy has finally begun to recover. That will be the proof. Wal-Mart's price / earnings is 14.0x (pep boys still shows negative earnings so a P/E ratio is "Not Applicable") . That means investors are willing to value Wal-Mart at 14 years worth of current earnings. Does that seem like a great value to you? No, this is speculation in its most obvious and purest forms.
Now, I am not here to build a case against Wal-Mart. If you are a business owner then you know that Wal-Mart is hard at work building market share in products that can grow store revenues in any market environment. Remember their shift last year to Personal Electronics, a good economy indicator. There are many more.
Wal-Mart's only risk is becoming lazy in their efforts to serve their customers. Study Wal-Mart and you will see a business model which is very similar to the US auto makers. Demand better and better parts, from fewer and fewer sources, at better and better margins. Eventually this model crushes the manufacturers of your products and reduces the overall quality offered your customers.
But that scenario is at least a decade away for Wal-Mart. They are still looking at ways to build value over time, incrementally. When they start pushing Wal-Mart credit cards at their customers, that is when we should begin to think Wal-Mart's retail efforts have reached their peak.
Build Value - like Wal-Mart - Everyday.
Brad van Siclen
Still from CNBC - "U.S. consumers have suffered in the past year from job losses, tighter credit and a weak housing market -- factors that have forced them to conserve money by shopping at discount stores and sticking to basic purchases like food."
Ever been to Wal-Mart? I'll take a wild guess and say that you have. It's at least 20 minutes further away than is your local super market. And US Consumers have decided that the deals there are worth the trip.
This, contrary to Wal-Mart and some Wall Street statements, does not suggest that the Consumer is stronger than we thought. It means quite the opposite. The Consumer is trying to maintain its life style by shopping at the king of discount stores. This result to me is identical to the recent report from Pep Boys - better than expected sales - It says that Consumers are still pulling in the spending reins. Wal-Mart and Pep Boys are lagging indicators.
Do not be fooled by Wal-Mart's positive reports. When they report declining Sales or lower than expected earnings that is when we will know the economy has finally begun to recover. That will be the proof. Wal-Mart's price / earnings is 14.0x (pep boys still shows negative earnings so a P/E ratio is "Not Applicable") . That means investors are willing to value Wal-Mart at 14 years worth of current earnings. Does that seem like a great value to you? No, this is speculation in its most obvious and purest forms.
Now, I am not here to build a case against Wal-Mart. If you are a business owner then you know that Wal-Mart is hard at work building market share in products that can grow store revenues in any market environment. Remember their shift last year to Personal Electronics, a good economy indicator. There are many more.
Wal-Mart's only risk is becoming lazy in their efforts to serve their customers. Study Wal-Mart and you will see a business model which is very similar to the US auto makers. Demand better and better parts, from fewer and fewer sources, at better and better margins. Eventually this model crushes the manufacturers of your products and reduces the overall quality offered your customers.
But that scenario is at least a decade away for Wal-Mart. They are still looking at ways to build value over time, incrementally. When they start pushing Wal-Mart credit cards at their customers, that is when we should begin to think Wal-Mart's retail efforts have reached their peak.
Build Value - like Wal-Mart - Everyday.
Brad van Siclen
Tuesday, March 3, 2009
Uncertainty, the "Great Value Killer" 3 / 3 / 2009
Look into the markets and what to you see? Hesitation. Why? The G7, while taking certain actions that may be value building, has primarily looked to the creators of our economic problems for answers and solutions. They are in no particular order, the regulatory agencies, the self regulated industries, and the corporations that gamed our economies to transfer value from shareholders to themselves. They built no value, in fact they knowingly drained value and transferred their risk to shareholders and the G7 economies as a whole.
So what is the result? Each of these enterprises, and make no mistake the regulatory agencies are enterprises too, is doing what it has done best, perpetuating the mirage of its overall value to the world economy even in current state in order justifying the need to feed them even more of our funds.
The result, beyond the general anger of the populace, is simple..the friends of these enterprises are supporting their requests, and the foes of these enterprises are calling for their downfall. No one knows which way to go here, the Fed and the Presidents of the G7 included. That creates uncertainty and uncertainty prevents investors and lenders from entering the markets.
Until these economic engines come off the sidelines, the values of all companies must continue to decline because a lack of investment and funding sources adds risk to the future of these enterprises. And since the only sources of capital seem to be the G7 governments, and their investment choices are the illiquid, no value companies, Citigroup, AIG, Car Companies, Foreign Banks, which in turn are not able to provide the capital to fuel the real businesses of the G7 nations, the overall value of the businesses and the G7 economies have no choice but to decline.
Building value in this environment is not possible. Maintaining value is difficult. The most troubling issue is the clear lack of understanding of how to build and maintain an economy by the G7 governments. How hard is this? AIG, Citi, GM, Chrysler, HSBC. If anyone of these companies goes away will we suffer more than we already have? No, in fact our economies will most certainly improve because the uncertainty surrounding their bail outs will be pulled from the funding markets.
Build value everyday.
Brad van Siclen
So what is the result? Each of these enterprises, and make no mistake the regulatory agencies are enterprises too, is doing what it has done best, perpetuating the mirage of its overall value to the world economy even in current state in order justifying the need to feed them even more of our funds.
The result, beyond the general anger of the populace, is simple..the friends of these enterprises are supporting their requests, and the foes of these enterprises are calling for their downfall. No one knows which way to go here, the Fed and the Presidents of the G7 included. That creates uncertainty and uncertainty prevents investors and lenders from entering the markets.
Until these economic engines come off the sidelines, the values of all companies must continue to decline because a lack of investment and funding sources adds risk to the future of these enterprises. And since the only sources of capital seem to be the G7 governments, and their investment choices are the illiquid, no value companies, Citigroup, AIG, Car Companies, Foreign Banks, which in turn are not able to provide the capital to fuel the real businesses of the G7 nations, the overall value of the businesses and the G7 economies have no choice but to decline.
Building value in this environment is not possible. Maintaining value is difficult. The most troubling issue is the clear lack of understanding of how to build and maintain an economy by the G7 governments. How hard is this? AIG, Citi, GM, Chrysler, HSBC. If anyone of these companies goes away will we suffer more than we already have? No, in fact our economies will most certainly improve because the uncertainty surrounding their bail outs will be pulled from the funding markets.
Build value everyday.
Brad van Siclen
Monday, March 2, 2009
What is the AIG Value? 3 / 2 /2009
At this point AIG, and frankly many more insurance underwriters, finds itself in a horrific situation. Let me try to distill this into a simple discussion and answer why. Insurance companies make money by leveraging premium payments (they call it "investing") with the knowledge that, year to year, they will pay out an average of 100% of those premiums in claims. I'll repeat that, Insurance companies make money by leveraging premium payments (they call it "investing") with the knowledge that, year to year they will pay out an average of 100% of those premiums in claims. Some companies, the more conservative underwriters (Berkshire Hathaway for example) routinely pay out in the low 90% of premium receipts annually. The idea is to invest the premiums in very very low risk investments and pocket the difference (the underwriter's operating profits) and use these profits in enhance the underwriting capabilities next year, or to launch new lines of business.
But in the case of AIG and even Berkshire this year their investments with these premiums proved to be anything but low risk. It seems that cash and gold were the only "investments" that could be made this last year. So this requires highly liquid assets on the balance sheet to cover the shortfall. In the case of Berkshire, they had the highly liquid assets to cover the shortfall. In the case of AIG, they did not. So the government stepped in to cover their shortfall.
Why?
By this point each of us recognizes that AIG had extraordinary laxes in internal oversight. So extraordinary that many of their so called derivative strategies were in fact adding additional leverage to their balance sheets in a strategy which transferred risk to their shareholders and, as we will see to their insured, then paid big bonuses to executives and insurance salesmen.
BUT after bonuses are paid, AIG still had to pay claims. THE LARGEST OF WHICH WERE INVESTMENT AND BOND RELATED INSURANCE. Yes, AIG for a premium would insure returns on financial instruments. What do you think their exposure was in those insurance underwritings this year? And finally, when you add up all the banks, investment banks, pension plans, mutual funds, and other financial institutions that were covered in a downturn by AIG policies by AIG and its AAA rating (considered ridiculous my most industry experts) you face a systemic collapse in realized losses and redemptions in the investment world causing a ripple effect that creates immediate recession if not long term depression.
How was this mega house of cards created? Its simple, Fraudulent Accounting Practices. If value is misrepresented in order to justify a AAA rating, and that AAA rating forms the basis for the insured parties to further extend their balance sheets, the risk to the financial system grows geometrically, that's exponentially to some.
The Board members and executives of all of these companies have failed all of us, many have thrown their fiduciary responsibilities into the trash by ignoring questionable accounting practices to save their share price and save their bonuses and annual stipends.
This is criminal, not negligent. And worse, at AIG the executives in charge saw this coming 2 years ago and made little effort to stop it, in effect to insure the liquidity of their own enterprise.
So where is the AIG value - gone and hopefully gone forever. This was not value adding to our economy, this was gaming our economy for the benefit of their executives.
Build value every day - even in the face of shocking public company behavior.
Brad van Siclen
But in the case of AIG and even Berkshire this year their investments with these premiums proved to be anything but low risk. It seems that cash and gold were the only "investments" that could be made this last year. So this requires highly liquid assets on the balance sheet to cover the shortfall. In the case of Berkshire, they had the highly liquid assets to cover the shortfall. In the case of AIG, they did not. So the government stepped in to cover their shortfall.
Why?
By this point each of us recognizes that AIG had extraordinary laxes in internal oversight. So extraordinary that many of their so called derivative strategies were in fact adding additional leverage to their balance sheets in a strategy which transferred risk to their shareholders and, as we will see to their insured, then paid big bonuses to executives and insurance salesmen.
BUT after bonuses are paid, AIG still had to pay claims. THE LARGEST OF WHICH WERE INVESTMENT AND BOND RELATED INSURANCE. Yes, AIG for a premium would insure returns on financial instruments. What do you think their exposure was in those insurance underwritings this year? And finally, when you add up all the banks, investment banks, pension plans, mutual funds, and other financial institutions that were covered in a downturn by AIG policies by AIG and its AAA rating (considered ridiculous my most industry experts) you face a systemic collapse in realized losses and redemptions in the investment world causing a ripple effect that creates immediate recession if not long term depression.
How was this mega house of cards created? Its simple, Fraudulent Accounting Practices. If value is misrepresented in order to justify a AAA rating, and that AAA rating forms the basis for the insured parties to further extend their balance sheets, the risk to the financial system grows geometrically, that's exponentially to some.
The Board members and executives of all of these companies have failed all of us, many have thrown their fiduciary responsibilities into the trash by ignoring questionable accounting practices to save their share price and save their bonuses and annual stipends.
This is criminal, not negligent. And worse, at AIG the executives in charge saw this coming 2 years ago and made little effort to stop it, in effect to insure the liquidity of their own enterprise.
So where is the AIG value - gone and hopefully gone forever. This was not value adding to our economy, this was gaming our economy for the benefit of their executives.
Build value every day - even in the face of shocking public company behavior.
Brad van Siclen
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