TMFDeej (99.47)

Everyone thinks that this was the bottom, so it must be true / Rumors / Quick Hits

July 21, 2008 – Comments (7) | RELATED TICKERS: C , CFC , WAMUQ

Have the stock market and financials bottomed?

There has been a ton of talk lately about how the trend of the past year…the destruction of financials and basically everything except for energy and materials for that matter is coming to an end.  That’s all I hear when I turn on CNBC or some other investment show and the last two covers of Barron’s have been about how the housing market is about to bottom and how now is the time to purchase financial stocks.  Buying financials and selling energy is supposed to be the new “contrarian” play.

The fact that everyone in the world is talking about how oil and materials are going to plummet and how financials are good to go doesn’t seem very “contrarian” to me.  I personally believe that the real “bottom” of the current bear market will be much scarier than this and that we may skip along the bottom for a while rather than just popping right back up like one of those inflatable Bozo the clown punching bags.  Am I ready to jump into the waters of financial stocks and spurn my beloved oil plays?  No.  To misquote Charlton Heston, you're going to have to pry my oil stocks from my cold, dead hands.

 If I was going to play the financials, I personally would stay far away from investment banks for a myriad of reasons.  These reasons include:

- Their inability to employ the same type of leverage that they have used for the past several years will render them unable to duplicate their historical (recent history anyways) returns on capital.

- Now that the Federal Reserve has opened the discount window to them, they will likely have to put up with a significant increase in government regulation and oversight.

-  Book values that are complete works of fiction.

-  A loss of revenue as a result of a slowdown in leveraged buyouts. 

-  A loss in revenue from a slowdown in the number of IPOs.

-  A loss of revenue as a result of the meltdown in the securitization market, particularly of mortgage-backed securities.

Investment banks are going to have to rely upon asset management and their trading desks for the bulk of their revenue in the future and these things aren't going to carry them back to the lofty levels that their stock was trading at just a year ago.

If I was going to dip my toe into financials, I would probably purchase either bonds or preferred shares of a real (aka non-investment) bank that has a solid base of deposits.  Barron’s had a great sidebar on preferred stock in this week’s issue.  Anyone who is considering wading into these waters should seriously consider going with preferred stock instead of common.  Sure, the potential upside of preferred stock is less, but preferred shareholders get paid out before common in the event of bankruptcy and the dividend payments on preferred shares are wild right now.

Of the preferred shares that were mentioned in the articles, the one that I personally found the most attractive was Citigroup (yes, I know that it is involved in investment banking...I didn't say that I was going to buy any just that it was the most interesting of the trash).  Originally issued at $25 per share, it currently trades at $17.11 and yields 9.4%.  This looks like a much better bet to me than shares of Merrill Lynch (yuck) at $16.60 yielding 9.71% or Lehman (double yuck) trading at $652 ($1,000 face) yielding 11.10%.  For those of you who are interested in walking on the wild side there piece mentioned Fannie Mae at $15.60, yield 13.22%, Wachovia at $13.06 yielding 13.80% and Washington Mutual at $6.50 yielding a whopping 15.39%. 

----------------------------------------------------------------------------------------------

Speaking of Fan and Fred, I came across an amazing quote from CAPS favorite Jim Rogers that sums up exactly how I feel about the whole situation:

"I don't know where these guys get the audacity to take taxpayer money and buy stock in Fannie Mae.  I mean, what is this?  What are they doing guaranteeing their debt?  The people who bought debt in Fannie Mae and Freddie Mac can read a prospectus.  It says it is not guaranteed by the government.  Anybody who can read a balance sheet knew that both of these companies were a sham and they had problems.  Now, we have to bail out the Japanese?  The Japanese own hundreds of millions of dollars of this stuff and so we are going to bail out the Japanese and the Chinese and everybody else in the world?  What is this?  It ruins the Federal Reserve's balance sheet, it makes the dollar more vulnerable, and it increases inflation, and drives down the dollar."

----------------------------------------------------------------------------------------------

While we're on the subject of this whole mortgage mess, take a look at the lead article in this month's Conde Naste Portfolio if you want to get yourself good and mad: Angelo's Many "Friends".  How are people not going to jail here, and not that country-club like white collar jail, the real deal?  They should lock up people like Mozilo and throw away the key or at least fine the heck out of him until he has nothing left.  And how can the government be seriously considering any housing bailout that was proposed by Senator Chris Dodd now that it has come out that he too was a Friend of Mozilo.

Agent Orange himself

Today's rumors (I guess that the government's going to have to lock me up)

-  After speaking with several contacts in the auto industry recently, rumor has it that Chrysler is strongly considering no longer reporting monthly sales results.  While as a private company it technically doesn't have to publish these numbers, every other automaker that sells vehicles in the U.S. does.  I have a feeling that this is a sign of just how bad things are getting at Chrysler.  It sounds like they are burning through cash fast and they are considering cut production and their operations to the bone.  Chrysler is by far my top draft choice in the automaker death pool.  As I have said in the past, I strongly believe that what's left of Chrysler will eventually be sold to a Chinese company.

-  Corn prices have dropped considerably lately as the estimates for this year’s crop thus far have been better than many had originally feared, but one of the key drivers behind corn’s astronomical rise in price over the past year, the government’s absurd ethanol policy, remains in place and it is scheduled to get worse as the federally mandated use of corn ethanol expands in 2009.  Now state government appear to be hopping on the ethanol bandwagon.  Rumor has it that this fall the state of California will issue its own rule requiring gasoline that is sold in the state to be a 10% ethanol blend.  If this does come to pass, it would increase the demand for ethanol by 1 billion gallons!  When is the government going to get it that using food to produce fuel is not a solution to our energy problems, it just makes people go hungry?

----------------------------------------------------------------------------------------------

Quick hits

-  Sovereign funds cut exposure to weak dollar:  More bad news for the U.S. dollar. 

-  Businesses brace for minimum wage hike:  More bad news for restaurants

-  OPEC's empty toolkit: An interesting article on whether OPEC actually has the ability to increase production

Deej