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TMFDeej (99.47)

The benefit from a competitor's bankruptcy outweighs economic weakness

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April 24, 2009 – Comments (12) | RELATED TICKERS: BBBY , BBY , F

 

I learned something new today.  Several weeks ago I ended my successful, several year long short of Ford Motor Company after my correct call that the demise of General Motors and Chrysler would be beneficial for it.  I hesitated to go long Ford and missed out on a huge multi-bagger move in the company's stock because I was still concerned about weakness in the auto sector and the overall economy.  Here's what I learned after evaluating this situation:

At least for a trade, the benefit to a company's stock price that results from the bankruptcy of a major competitor outweighs any economic weakness...no matter how bad things are. 

Check out the fantastic chart above (if I do say so myself ;)).  In all three of these instances I determined early on that the bankruptcy of major competitors would be beneficial: Bed Bath and Beyond (BBBY) / Linens & Things, Best Buy (BBY) / Circuit City, and Ford (F) / General Motors and Chrysler.

Yet in all three instances I failed to pull the trigger on a trade because I was afraid that the economy is so bad and that this economic weakness will continue for some time to come.  I went long BBBY in CAPS but was talked out of it by people in the comments section and ended the position.  I ended my short of Ford in CAPS but did not have the stones to give it the thumbs up.  And I did absolutely nothing with Best Buy.

The weak economy may indeed eventually suck these companies stock prices back down, but in the meantime these situations would have made one heck of a trade.  Hmmmmm missed opportunities.  Well, at least I'm learning.  The educational aspect of CAPS is one of the things that I like best about it.  If I wasn't blogging and writing my thoughts down like this I don't know if I would have noticed this pattern.  I'm sure that this concept is simple to many, but apparently at least from a trading standpoint (and I rarely trade things short term, I'm more of a yield hound) these opportunities outweigh economic weakness.

I don't plan on making the same mistake a fourth time.  The next time a company sees a major competitor go bankrupt or there is even a whiff that it might happen I am going to immediately give it a thumbs up in CAPS.  Given the current state of the economy, I doubt that we'll have to wait too long for this situation to arise again.

I will attach a larger version of the above chart in the comments section below.  I realize that nothing happens in a vacuum and in general that the markets have risen significantly over the past several months.  That's why I included the S&P 500 in the chart for the sake of comparison (not to mention that outperformance of that index is the basis for the CAPS scoring system).

Deej

12 Comments – Post Your Own

#1) On April 24, 2009 at 10:41 AM, TMFDeej (99.47) wrote:

Here's an easier to read version of the above chart:

Deej

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#2) On April 24, 2009 at 10:50 AM, kaskoosek (98.26) wrote:

Shorted BBBY

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#3) On April 24, 2009 at 11:35 AM, EHoyle80 (< 20) wrote:

The Stock Research Portal is genuinely perplexed. Does anyone, he asks, “Have a rational answer as to why the US dollar is stronger in the face of the White House’s apparent position vis a vis Chrysler and GM”?

Via Stock Research Portal

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#4) On April 24, 2009 at 12:11 PM, TMFDeej (99.47) wrote:

Stop spamming, unless you gave my post a rec of course ;).

Deej

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#5) On April 24, 2009 at 12:17 PM, portefeuille (99.78) wrote:

Before jumping to conclusions you might want to have a look at some literature on the topic:

1,2,3,4,5, ...

Buying GS,MS after LEH/BSC/MER was not such a good idea ... at the beginning ...

Making sure I remembered the ticker symbols correctly I found this !

(time, it goes so fast (when you're having fun))

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#6) On April 24, 2009 at 12:23 PM, unvrsldeflation (74.37) wrote:

Yes, consolidation is the natural effective counter to bad economic conditions, normally. What worries me about Ford is the real potential for a bankruptcy cascade in the US auto industry. Whichever of the two teetering giants (Chrysler or GM) goes first will undoubtedly use bankruptcy to gain huge pay cuts to its workers. The other might then not wait and could immediately choose to enter bankruptcy as well, in order to not miss out on the competitive advantage that lower pay scales brings. If Chrysler and GM both do that will Ford stand idly by and allow its competitors to enjoy such an advantage while it is stuck at non-bankruptcy payscales?

The whole auto industry thing has been fascinating to watch. I think that Chrysler's deal with Fiat was intended to keep Chrysler from declaring before GM was ready. It looks like Chrysler is in such bad shape that even the 'fix' can't forestall a declaration. Within 48 hours of it being leaked that Chrysler will declare next week GM has announced a 9 week furlough of most plants.

When this is over I think there is a high probability that the average assembly line worker at a US auto maker will be making less than half of their traditional pay, benefits will be cut way back. What is that, something like $12.50 an hour to make cars for a living?

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#7) On April 24, 2009 at 1:19 PM, TMFDeej (99.47) wrote:

Excellent point unvrsldeflation .  The impacts of the carnage upon the industry and the negative economy kept me from making the Ford play and they may indeed eventually end up being a major negative for the company that knocks the current rally in its share price back down...but this sure would have been one heck of a trade.  If I would have done this in real life I definitely would definitely take a decent chunk off of the table at this point.  Alas, CAPS does not afford us that luxury so I would have to give careful thought on when to pull the plug on this trade here if I had made it.

As far as negotiations with the UAW go, I suspect that Ford mught be able to reopen its agreement with them and get some of the same concessions that GM and/or Chrysler are able to squeeze out of them in bankruptcy.  If I was the UAW, I would rather give something to Ford now and have it avoid bankruptcy than have it eventually have to file and have to give up even more.  That line of thinking might be a little too logical for them though.

Deej

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#8) On April 24, 2009 at 1:24 PM, TMFDeej (99.47) wrote:

I thought of the GS / MS example as well earlier today, portefeuille.

This theory still sort of works in the example that you mentioned. In trading timing is everything I suppose. If one had waited for the Lehman / Bear storm to calm a little purchasing stock in the two best companies in the sector Goldman and Morgan would have resulted in gains of 25% to 40% thus far.

Furthermore, the investment bank example is not exactly comparing apples to apples because many of these banks were Lehman counterparties that were hurt financially by its bankruptcy.

Thanks for the links BTW.  It appears as though the reports are for subscribers only. Have you read them?  What is their conclusion?

Deej

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#9) On April 24, 2009 at 2:23 PM, bigpeach (34.23) wrote:

Allow me to add, that Lehman and Bear didn't go anywhere. They just changed ownership, Bear to JPM, and Lehman to Barclays, so the competition wasn't eliminated. An industry where I had similar thoughts was gaming. I posted in my pitch for WYNN that the imminent bankruptcy of MGM and LVS would be beneficial in the long run.

With BBBY and BBY, the supply actually vanished when Circuit City and Linens 'n Things folded. The casino industry however is more like the investment banking model in that the supply of casinos will not vanish. My thinking was that WYNN could benefit by picking up a new property on the cheap, or perhaps benefit from disorganization at competitors casinos.

Just a thought if you're looking for these in the future, although I would expect WYNN to follow the GS model more than the BBY model. PENN is also one that could capitalize on a competitor failure through acquisition.

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#10) On April 24, 2009 at 2:48 PM, DemonDoug (98.84) wrote:

I am getting the same feeling now as I did throughout most of 2007, when I could see the market rallying in the face of some of the worst fundamentals and overvaluations I've seen in my investing career.

TWT

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#11) On April 24, 2009 at 3:13 PM, Tastylunch (29.95) wrote:

Great post Deej.

Te only caveat I think one has to consider is whether the industry itself is dieing/readically transforming.

That's the problem with say Newspapers and possibly autos.

 

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#12) On April 24, 2009 at 4:54 PM, TMFDeej (99.47) wrote:

Thanks Tasty.  The funny thing is that even if the industry is a hopeless mess, like autos, this trend seems to work...at least as a trade.

Newspapers are a little different than home goods retailers, electronic stores, and domestic automakers in that these industries had only a few major players in them while there are a ton of public and private newspaper operators + competition from the Internet.

I'm determined to find another situation where this will work.  The casino idea that peach mentioned is an interesting one, but as was mentioned even in the event of a bankruptcy the casinos probably won't completely shut their doors.  If the survivors could pick the bones of the broken casinos though it would probably work.

This is very interesting stuff.  If anyone who's reading thinks of any ideas for this sort of trade I'd appreciate it if you let me know.

Have a great weekend everyone.

Deej

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