just in in-tray
A strange recession... Deutsche Bank's "no duh" award... Can GM be saved?... Should GM be saved?... The Fed's secret $2 trillion... Regulators vs. hedge funds... It's all capitalism's fault...
This is a strange recession... While all the economic data I've seen looks pretty bad (unemployment rising, consumer spending falling), I can tell you from personal experience that a lot of people are still spending heavily.
Over the last week, I've been unusually busy with meetings and travel. I've eaten out at half a dozen high-end restaurants, spent the night in two different luxury beachfront hotels, and spent last Saturday night in Miami, going to dinner and then to an upscale nightclub on the roof of yet another luxury hotel (the Gansevoort). Every restaurant – in Baltimore, Amelia Island, Orlando, and Miami – was packed, with hardly a spare table. The nightclub (where a round of drinks for six people cost $120) was standing room only. Every hotel I checked into was overbooked. I was expecting these places to be empty. They were all full.
What's going on? Are things as bad as the media say? Let us know what you're seeing in your business and your community: feedback@stansberryresearch.com.
This might be our "no duh" of the year award winner. With GM's stock trading around $5 – and after the car maker disclosed it burned through $7 billion in cash and barely has enough money remaining to fund its operations – Deutsche Bank has downgraded GM to "sell," with a price target of $0. "Without government assistance, we believe that GM's collapse would be inevitable,"! ; the broker said. No duh.
Here's what I'd like to know from Deutsche Bank. How much money did the bank enable GM to borrow over the last 10 years? How much did it earn in fees for this banking? How long has it recommended GM's stock and debt to gullible investors, large and small?
If you're a client of any of the big investment banks – if you take their advice – you're an absolute fool. If you happen to work at Deutsche Bank and would like to defend your company's actions, please send us a note. We'd love to hear the rationalization.
We know it's very likely the government will take steps to save GM. But it shouldn't. Why not? What do we have against GM? Let's start with the obvious: It chose to operate at a capital loss for nearly 20 years.
Over the weekend, GM's all-time worst CEO, Rick Wagoner, said, "It's fair to say liquidity is the top priority for the company..." Liquidity isn't the problem, Rick. Solvency is the problem. In 19 out of the last 20 years, GM didn't make enough money to finance its capital expenditures and its dividends. Instead of cutting back, it borrowed money. And it continued to borrow more and more, until its debts became so large that, as I pointed out nearly two years ago, it was financially impossible for the firm to survive. GM hasn't been earning enough money to pay its interest costs. It's been borrowing money to pay interest – that's a ponzi scheme.
And if this was apparent to me, a lowly financial scribbler sitting in Baltimore, then it's fair to assume the capital deficit has been apparent to GM's managers and lenders for years. But rather than making tough decisions, both parties willfully put their heads in the sand. GM's problems are not the "surprise" results of some unforeseen development. GM's bankruptcy was assured as many as five years ago. So why should we bail out GM's lenders? They should have known better.
The only way to run GM profitably in North America is to allow the company to compete on equal terms with its competitors, who aren't heavily indebted and who don't have unionized labor forces. Only bankruptcy can free GM from the obligations that are strangling it. If we don't allow bankruptcy, if we pour taxpayer money into GM as it operates today, we are only going to postpone the inevitable and make the eventual loss t! hat much bigger.
Even if GM could be fixed... why should we bother? We don't need GM, Ford, or Chrysler. There's no shortage of cars or carmakers operating successfully in America. For the first time last week, the largest car dealer in the country, AutoNation, broke out its earnings from the different dealerships it owns. The Big Three (GM, Ford, Chrysler) account for about half of AutoNation's 238 stores. But combined, these dealerships ! earned only $23 million in pretax profit, and earnings from these dealerships is down more than 50% in the last year.
Meanwhile, AutoNation earned $53 million from fewer Honda and Toyota dealerships and $43 million from its Mercedes, BMW, and Lexus dealerships. Americans have overwhelmingly chosen to buy Japanese and German cars. The only way U.S. models have been competitive, for years, was through discounting so severe it was impossible to earn a profit manufacturing or selling these cars. We don't need the government to subsidize discounts in the auto industry.
China, the biggest contributor to world growth, announced a $586 billion plan to boost its economy. The government pledged "fast and heavy-handed investment" in housing and infrastructure through 2010 and a "relatively loose" monetary policy. You have to wonder, if government spending is really a financial panacea, why not simply run the world's economy through governments all the time? Wait... didn't a! few countries try this before?
And the U.S. is still adding to its bailout plan... AIG received a revised rescue package valued at more than $150 billion. I'll spare you the details, except to say this bailout is the most absurd yet. AIG managers wrote guarantees against financial assets of all stripes, paid out huge bonuses based on the "profits" of underwriting these risks, and then had zero capital to make good on any of its promises to pay! . So who is actually paying? Me and you, kid. And we'll be paying for decades.
Of course, AIG's loss pales in comparison to Fannie Mae's – yet another company we warned you was completely insolvent and worth precisely zero. The now government-owned mortgage company posted a $29 billion quarterly loss, or $13 a share.
Two things you ought to consider carefully when thinking about this ongoing wave of bailouts. First, remember the money ($700 billion) Congress authorized the Treasury to spend to bail out the banking system? This was to be spent buying financial assets, like mortgage securities, that might one day provide a return to the Treasury. Remember all of those politicians saying the government might even make a profit on the prog! ram? Ha, ha, ha... Now that money is being used to pay off AIG's policies and will soon be used to pay off GM's lenders. There will be no return on any of this money and very little return of any of the principal.
Second, that money is just a drop in the bucket compared to the money that the Fed has already put on the street. Total Federal Reserve lending topped $2 trillion – yes, trillion – last week. That's up more than $1.2 trillion in only the last seven weeks. The Fed is refusing to disclose where these loans went and what collateral was put up for the credit. (It can't simply admit it's just printing money.)
Bloomberg released a story today listing the year-to-date returns of some of the world's best hedge-fund managers. Jeffrey Gendell of Tontine is down over 76%. David Einhorn of Greenlight Capital lost 26%. And Ken Griffin of Citadel is down 39%. All three managers made hundreds of millions of dollars last year.
None of these hedge funds – which are unregulated – has asked for a bailout. None has asked to borrow money from the Fed. None has demanded the government buy its worthless mortgage security portfolio. And none of these hedge funds – which have been roundly criticized as too "risky" for investors – has defrauded their trading counterparties by not having enough collateral.
All of the problems in the financial system emerged from highly regulated investment banks and insurance companies. Keep this in mind when Washington holds hearings on the situation next year and tries to put the blame on hedge funds. Meanwhile, you can bet we'll never have a hearing on what went wrong at Fannie Mae or Freddie Mac. Washington's solution to the problem? That's easy – a better regulator. Ha, ha, ha...
Not all hedge-fund managers are down. Jim Chanos, manager of the short-only Kynikos Associates, is up 53.2%. What's Chanos shorting now? "We are short all of the satellite and most of the cable companies in the U.S."
In Thursday's Digest, we reported Sean Egan of Egan-Jones credit ratings said most restaurants will be hurt by a combination of a bad economy and an Obama presidency – except 12% Letter pick M! cDonald's (MCD). So Far, Egan's prediction is correct. The fast-food giant announced earnings today, and global comparable sales rose 8.2% in October. U.S. sales grew 5.3%, but the biggest growth was in Asia/Pacific, the Middle East, and Africa, up 11.5%. Shares gained 2.5% on the news.
New highs: none.
In the mailbag... it's all capitalism's fault. Apparently, some of our readers believe an economic system based on individual rights, civil exchanges, and protection from coercion is a terrible idea. Also, free trade is hurting us. And short sellers. What do you think, dear subscriber? Let us know, here: feedback@stansberryresearch.com.
"It is quite apparent that capitalism is not working. When will you figure that out? It won't work when we don't have the same set of trade rules as other nations do. We have been waiting for the Japanese and the rest to open their markets to American products for decades now. I never see you talk about that. We have lost one industry after another in this country and will continue to do so until we address these trad! e barriers and violations. It would be nice to see you talk about that. Until we address the root of the problems we will continue on the path to becoming just another 3rd world nation... I'm sure those with a short position in GM or Ford would rather put their position over the future of our country. I doubt with your position you will print this." – Paid-up subscriber G. Judy
Porter comment: Economics has clearly never crossed your mind.
"Been hearing rumors that the Feds will default on the treasury debt. Replace the dollar with the Amero for 2 cents on the dollar. Your thoughts."
– Paid-up subscriber Jim McNally
Porter comment: There's certainly no reason to default when we own the world's reserve currency and when we control the printing press. And there's certainly no reason we'd ever give up those two things. I think the "amero" – a shared currency with Canada and Mexico – is just a hoax.
"Porter – What happens when puts are sold with a strike price above the current value of the stock. Please explain this scenario." – Paid-up subscriber Alex S.
Porter comment: Selling "in-the-money" puts is just like selling "out-of-the-money" puts except in-the-money options have intrinsic value plus time value, while out-of-the-money puts only have time value. Obviously, the intrinsic value of an option doesn't change based on market sentiment. But the time premium does.
In my Put Strategy Report, we were selling out-of-the-money options because we didn't want to own the stocks and because the time premiums were outrageously high. By selling puts that were far out of the money, we were selling insurance against an extremely unlikely event – for a very, very high price.
Regards,
Porter Stansberry
Baltimore, Maryland
November 10, 2008
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