Is Your Bank Your Mortgage Lender?

Posted on July 17, 2008 by Felix

Anthony Bianco on Ken Lewis:

As lending volume exploded, the issue of whether B of A should jump back into the subprime game sparked fierce internal debate. Customers by the millions were going elsewhere for mortgages and taking their banking relationships with them.

Do people really change their bank when they take out a mortgage? It seems to me that changing banks is a complicated, high-stress proposition which is pretty much the last thing you’d want to do in the middle of the process of buying a house. But I’d love to see the numbers on this.

Posted in banking, housing | Comments Off on Is Your Bank Your Mortgage Lender?

Oil Company Economics

Posted on July 17, 2008 by Felix

What would constitute price manipulation in the oil industry? Howell Raines doesn’t blame speculators for high prices in his latest column; instead, he blames the oil companies themselves.

Supply and demand? Sure, but as John Lee, a business journalist at the Wall Street Journal and the New York Times for many years, reminds me, supply and demand in oil are not just “two pie charts–where it comes from, where it goes, measured maybe five years ago.” There are more complex reasons for pain at the pump. “American gasoline prices have always reflected the latest spot price, namely what you have to pay to buy bulk gasoline on the open market. This is last-in pricing, rather than pricing based on inventory costs.”

Now, let’s say you’re an oil company selling bulk gasoline, and suppose your inventory contains some gasoline made from $140-a-barrel oil and some that was purchased for $75 a barrel. That leaves a lot of room for price manipulation.

It seems that Raines thinks the oil companies should sell gasoline according to what they paid for it, rather than what they could sell it for on the wholesale market. But they’re privately-owned companies: they have an obligation to their shareholders to sell at the market price, when prices are rising. Gasoline prices are always determined primarily by the latest spot price for oil, rather than inventory costs, just as you’d expect: there’s nothing new going on here.

Raines does make one intriguing point:

As journalism has passed from a hungry to an elite profession, there’s no shock value in the fact that Exxon Mobil paid only $5 billion in U.S. income taxes last year while it paid $25 billion to foreign governments. Even with Exxon Mobil making $76,000 a minute, the last thing that occurs to many assignment editors and reporters is to investigate whether a windfall-profits tax would drive Exxon Mobil, BP, and other oil companies to invest in the alternative-energy strategies they boast about in their television commercials.

I don’t know what to make of the first comparison without knowing much more about what the $25 billion figure represents: if it’s royalites for oil rights, it’s very low. But what of the second point? Would a windfall-profits tax drive investment in alternative-energy strategies? I can see how it would drive investments overall, if those investments came out of profits, thereby bringing profits down. But it’s easy to invest enormous amounts of money in hydrocarbon exploration and development with reasonably certain returns. Investments in alternative energy, by contrast, tend to be much smaller and be much less likely to generate future profits. So I suspect that insofar as a windfall profits tax would spur investment, it would be much more on the fossil-fuel side of things than on the alternative-energy side of things.

Posted in commodities, economics | Comments Off on Oil Company Economics

Angelo Mozilo’s VIPs

Posted on July 17, 2008 by Felix

Dan Golden’s full 5,500-word cover story on the VIP loans given by Countrywide to "Friends of Angelo" is now online. He leads with the most damning of the cases: that of Richard Aldrich, a California state appeals court judge. Aldrich belonged to the same country club as Angelo Mozilo, and got a mortgage above what guidelines allow, as well as $5,000 in waived "points". He then proceeded to reject an appeal brought in front of his court by Countrywide borrowers.

Beyond the Aldrich case and maybe one or two others, there’s not a lot in the way of smoking guns here. Angelo Mozilo was well within his rights to deem anyone he wanted a "VIP", whether they knew it or not. And it’s part and parcel of being a VIP that you get exceptional treatment; there’s actually very little that VIPs can do to stop that happening.

There’s also a massive irony overhanging this entire story. Countrywide is Poster Child Number One for lax automated underwriting: the idea that you don’t really need to know your borrower before you lend money to them. It’s now conventional wisdom that that kind of thing doesn’t work, and lots of columnists are quoting John Pierpont Morgan:

Asked: "Is not commercial credit based primarily upon money or property?"

"No sir," replied Morgan. "The first thing is character."

"Before money or property?"

"Before money or anything else. Money cannot buy it…Because a man I do not trust could not get money from me on all the bonds in Christendom."

The fact is that VIPs are probably more creditworthy than most Countrywide borrowers. Lending money to someone based on who they are rather than how much they say they earn is precisely the kind of thing that most of us wish lenders had been doing all along.

Posted in housing, Politics | 1 Comment

To Walk Away or Not?

Posted on July 17, 2008 by Felix

I got an email this morning from a reader who will, for obvious reasons, remain anonymous:

Let me give you a brief history and see if you have some advice from me. I am a physician who bought an investment home in Nevada for 230,000. My note is 208,000. The house if sold would be lucky to be worth 130,000. My note is 1700 per month and rent only brings 900 per month. Credit aside, I was thinking of foreclosure. I don’t need the credit. The problem is I live in million plus house with about 500,000 of equity. Keeping the investment house makes no financial sense. I feel like I was misled by a real estate broker. I only have myself to blame. My question what is the chance of them coming after me for the difference being that I have equity in my primary residence and have a well compensated job? I wish I lived in California right now.

Actually, living in California wouln’t help here, from a legal perspective: only mortgages on primary residences are non-recourse.

From a financial perspective, there’s an option value on walking away rather than simply selling and paying off the balance of the mortgage. Either the lender will come after you for the difference, or they won’t. If they don’t, you’ve saved yourself $80,000. If they do, then you can just pay them the balance – which you do after all owe them.

So now the question becomes, do you walk away, or do you continue to pay your $1,700 a month in mortgage payments and receive your $900 a month in rent? Bleeding $800 a month like that is not pleasant, especially when the value of your home is going down rather than up: you don’t want to pay for the privilege of seeing yourself get further and further upside-down.

My advice would be to talk to the lender. Explain to them that you don’t live in the house and that you have no desire to keep it, and ask them if they would accept a short sale. There will be some negotiation — you might want to get yourself a lawyer — and with any luck you’ll be able to come to an agreement which will preclude any legal action against you. After all, the lender would much rather have you fully on board, actively selling the house in good condition, rather than being forced to go through expensive foreclosure proceedings.

Any other advice from Market Movers readers?

Posted in housing | Comments Off on To Walk Away or Not?

European Storms

Posted on July 17, 2008 by Felix

Chart of the day comes from the FT, which has updated its April financial weather map of Europe. Over the past three months, just about every country in the region has deteriorated: you can see why the oceans have been changed from blue to gray. I’ve put the two maps together into one big one, with April on top and July underneath.

Click on this image for the larger version:

littlestorms.jpg

Posted in charts, economics | Comments Off on European Storms

Status Update

Posted on July 16, 2008 by Felix

I’ve gone and caught some kind of nasty stomach bug, but fingers crossed it’s getting slowly better now. Blogging will be infrequent today, and then nonexistent from Friday, when I take a break in the south of France; back in the saddle properly July 29.

Posted in Announcements | Comments Off on Status Update

Extra Credit, Tuesday Edition

Posted on July 15, 2008 by Felix

Executive Suite: Joe Nocera is blogging.

Morals, hazards: "The problem might not be panic selling, but rather an appropriate assessment of market risk. On the other hand, the problem might be panic selling."

Pollyannas of the World Unite! It Is Time to Buy

Obama’s Intrade Market Soars, Dow Plummets: A Very Strong (-0.91) Negative Correlation

The joy of $8 gas

Posted in remainders | Comments Off on Extra Credit, Tuesday Edition

The SEC Panics

Posted on July 15, 2008 by Felix

I think it was about the time that the SEC started trying to curtail short selling that I finally decided that we’re in panic mode. The market’s actually flat, as I write this, although Fannie and Freddie are down 20%, maybe because the Ackman plan actually makes quite a lot of sense.

Ackman’s idea is to wipe out the current shareholders, and then create new equity by taking each dollar of senior unsecured debt, and replacing it with 90 cents of new debt and 10 cents of new equity — a much more sensible leverage ratio than what we’ve got right now. The government would put a floor under the value of the equity, so the debt holders would retain at least face value, even if they lose some coupon income on the 10% of their debt which becomes equity. If I were the US government I’d go a little bit further and guarantee the next three years’ coupons too, maybe give existing shareholders a small stake as well, but that’s really a niggle.

In any event, the SEC response was to ban naked shorting of Fannie and Freddie. You can still buy puts, load up on protection, borrow stock and sell it, all that kind of thing; you just can’t sell stock you haven’t borrowed.

The most charitable view of this is that the move is political, designed to make it seem like the SEC is Doing Something in the face of all the chaos. But it doesn’t look like that: it looks like the SEC is happy signing on to the belief that stocks wouldn’t be falling if it weren’t for short-sellers. In other words, the Powers That Be don’t trust the market, and the SEC has gone from facilitating price discovery to making it harder.

Meanwhile, check out the RBS share price: down another 10% today, to seriously distressed territory:

The stock is now yielding close to 12 per cent and sits on a discount of 40 per cent to forecast book value.

You think that’s all the fault of short-sellers too? I don’t. I think that financials in general are toxic right now, and that the market has to get its revulsion for them out of its system. I think people who bought at 2x an overstated book value should finally give up and sell at 0.5x the new, lower, book value, and I think they should be proved smart as a couple more big retail banks get taken over by the FDIC and their equity goes all the way to zero. And then I think people should realize that the sun is still rising in the mornings, that good borrowers like InBev can still line up $45 billion in financing, that people can still buy houses if they’re able to put 10% down, and generally that the financial system still works fine. It might not be hugely profitable for shareholders, but it’s still capable of driving the economy.

So let the short-sellers do their worst. It’ll just hasten the necessary and inevitable, and that’s probably a good thing.

Posted in banking, regulation, stocks | Comments Off on The SEC Panics

The Real Cost of the Agency Guarantee

Posted on July 15, 2008 by Felix

Dan Gross says that if and when the federal government bails out Fannie and Freddie, "the bailout will be a bargain for American taxpayers, because any cost of it will be overwhelmingly offset by the tangible and quantifiable economic benefits that taxpayers have collectively received over the years from the market’s expectations that such a bailout would materialize if needed".

He’s wrong, for two reasons.

Firstly, Gross quantifies the "benefits that taxpayers have collectively received" by looking at the interest rate they paid on their mortgages. He reckons that because of Fannie and Freddie’s implicit government guarantee, those interest rates are 25bp lower than they would otherwise have been, and that the "present-day value of the historic implied guarantee" is on the order of $100 billion.

But if I’m a homebuyer, I don’t put in an offer on a house and then go shopping for a mortgage: I put in an offer which is directly correlated to the amount of money that a bank is willing to lend me. Let’s say I can afford $2,000 a month in mortgage payments: then if those mortgage payments will land me a $450,000 mortgage, then I’ll bid $20,000 more than if those mortgage payments will get me only a $430,000 mortgage. A lower interest rate will increase the amount I have to pay for my house; it won’t decrease the amount I pay on my mortgage each month.

In fact, Americans are paying more in mortgage payments today than they have at any point in history. Does that sound like they’re saving money to you?

Now there is a group of people who have indeed realized "tangible and quantifiable economic benefits" from the GSEs’ implicit government guarantee, and that’s the shareholders of Fannie and Freddie. True, they’re not feeling particularly well-off right now, but that’s another story. If Fannie and Freddie had been government agencies rather than government-supported agencies, then the benefits of the government guarantee would have accrued to all taxpayers, rather than being dividended out to the GSEs’ shareholders. But they weren’t.

Here’s Gross:

Until this week, the cost of this benefit has been effectively nothing–save for some foregone taxes and the cost of regulating the companies.

Effectively nothing? The cost of the implicit guarantee is not foregone taxes, it’s foregone profits. The US government has essentially been insuring the debt of the GSEs against default, while neglecting to charge any insurance premiums.

And now that the guarantee is explicit rather than implicit, just look what’s happened to US sovereign debt:

This is the first time in my career that I truly believe U.S. Treasury bonds sold off on credit concern. By this I mean, the credit of the U.S. Government. Long time readers know I’m not an alarmist type, and I’m sure not saying the United States is going belly up, but credit default swaps on the United States of America moved 11bps wider today (from 9bps to 20bps). The 10-year Treasury moved 15bps higher. All on a day when people are scared shitless and there should have been strong demand for "risk-free" assets.

That’s a real cost, Dan. It might not be a line item in any GSE bailout, but when the US has to pay more money to roll over its trillions of dollars in liabilities, every basis point counts.

Posted in bonds and loans, fiscal and monetary policy | Comments Off on The Real Cost of the Agency Guarantee

Going Private, Lehman Edition

Posted on July 15, 2008 by Felix

Lehman Brothers is now trading at $12 a share, which is less than its asset-management business alone is worth. So at this point it makes perfect sense for CEO Dick Fuld to go private, sell off Neuberger Berman, and basically get the rest of the bank for free. Yes, there would be question marks over how reliable a private Lehman might be as a counterparty, but there are the same question marks over a public Lehman, too. And the private Lehman would still have the same access to the Fed’s discount window that the public Lehman has.

And why stop at Lehman? Washington Mutual, National City, even Freddie Mac — I can imagine how the management at all these banks might consider going private to be an extremely attractive option. Long-suffering shareholders, on the other hand, might not be quite as happy, but at this point they should probably feel happy with anything greater than zero.

Posted in banking | Comments Off on Going Private, Lehman Edition

Why Hotel Wifi is Broken

Posted on July 15, 2008 by Felix

I’m never going to stay at the Hotel Felix again. Why? Lots of little things, which I shan’t bore you with. But one of them is their idiotic system of charging for wifi – the subject of Joe Brancatelli’s column today.

At the Hotel Felix, getting online is not only expensive ($28 a day!) but also incredibly time-consuming for all concerned: you first phone down to the front desk, and they then print out a piece of paper with a long and complicated username and an equally long and complicated password. They then give that piece of paper to a staff member to hand-deliver to your room.

One you have your username and password, you open a web browser and cross your fingers: if you’re lucky and the stars are correctly aligned, you’ll be successfully redirected to a web page where you can laboriously type them in. If you get it right, you’ll make it online. For about 10 minutes. At which point you’ll be kicked offline for no obvious reason. You then try quitting browsers, reopening them, etc etc, all to no avail: you can’t get on to that web page again no matter how hard you try. So you eventually look in your browser history, find the IP address, and enter that; presto, you’re reconnected.

Until you leave your computer and let it go to sleep. At that point, your connection is lost to the world, and trying to re-enter your username and password gets you nowhere. So you have to call back down to the front desk again, and they will print out a new username and password for you, and send it up to your room again, and the whole thing starts anew.

This is a great system if you want to achieve three goals:

  1. Absolutely, positively guarantee that no one will ever use the hotel’s wifi system without paying the hotel’s exorbitant rates;
  2. Maximize the amount of work done by the staff of the hotel;
  3. Send your paying guests crawling up the wall with frustration.

Brancatelli mentions the costs of bandwidth, which can reach a thousand dollars a month for a big hotel in a high-tech area. But that doesn’t sound particularly high to me. The problem with charging for wifi is that the charging system itself – which invariably uses up a huge amount of staff time when it doesn’t work properly, which it never does – is much more expensive, when you add it all up, than the bandwidth being provided.

If you have to charge for wifi – and there are attractive alternatives – then at least move to a more simple system: put a password on it, and charge your guests $10 or $20 when you give them the password. Wifi is one of those weird commodities which gets better the less it costs: when you’re paying through the nose for it, it never "just works" like it does when it’s free.

And please, please move away from the ridiculous model of charging by the hour. An anonymous hotel executive complains to Joe about guests "downloading movies, playing games, and doing video conferences" – those things eat up bandwidth, yes, but the amount of time spent online is a really bad proxy for bandwidth consumed. Most of us don’t do any of those things when we’re at a hotel – we just want to set up our laptop in the corner somewhere, glance over occasionally to see whether any new emails have arrived, or pop online to check on the opening hours of a local museum. That kind of thing should never require an elaborate log-on-and-log-off process designed to minimize the use of expensive online minutes.

But I fear that Joe’s right, and the problem of hotel wifi charges will only be resolved when mobile modems become as ubiquitous as cellphones. Once hotel guests regularly get online without any hotel amenities at all, wifi charges will be like those telephone charges no one pays any more. But even then, although hotels won’t be able to complain about bandwidth use any more, they’ll surely come up with some other reason to continue to keep the prices high. Or maybe they’ll start charging for access to electrical sockets.

Posted in travel | 1 Comment

Central Banker Salary Datapoint of the Day

Posted on July 15, 2008 by Felix

Last year, the Bank of England paid about £520,000 to Mervyn King: a salary of £290,653 and pension contributions of about £230,000. This year, King isn’t eligible for pension contributions, since he’s 60 years old now and that’s the age at which the pension scheme deems that a person has retired. But luckily for him, this is also the year that the recommendations of a review of Bank of England salaries are being put into effect. And according to that review,

the Governor should be paid more, between £375,000 and £400,000, but receive less pension benefits.

Given that King is no longer eligible for pension benefits, that nominal pay rise constitutes, for him and his pension fund, a pay cut of about £130,000. But King has also said that accepting the salary rise would be "inappropriate". Which means he’s just taking his standard 2.5% wage increase, bringing his pay this year to about £298,000: his effective pay cut is over 40%.

Of course, the real money comes not now, but later, after he retires. That’s when he can start accepting lucrative consultancies and non-executive directorships which will make his present pay look positively puny. His decision to forego a £110,000 pay rise for this year, we can be sure, will have no effect on his standard of living whatsoever. In other words, the upside is significant – he gets lots of good press from the decision – while the downside, in practice, is small indeed.

Posted in fiscal and monetary policy, pay | Comments Off on Central Banker Salary Datapoint of the Day

The Upside of Falling Bank Stocks

Posted on July 15, 2008 by Felix

Financial stocks are plunging right now: if Fannie and Freddie can be brought to their knees, then no bank is safe. And falling bank stocks are systemically very worrying: the equity cushion is an important part of the way in which banks protect themselves from runs and ruin, which means that a falling share price can become self-fulfilling.

But I’m more sanguine about all this chaos. Indeed, it’s entirely possible that the volatility we’re seeing on the stock market right now is actually a good thing, systemically speaking.

Heidi Moore feels the poor shareholders’ pain:

Shareholders bought shares of Fannie and Freddie precisely because they knew that if the two lenders ever fell in trouble, the government would step in. And now that the government has stepped in, it is determined not to help shareholders…

In the Bear Stearns bailout as well, Paulson was determined not to save shareholders, which was a classic case of blaming the victim of a run on the bank. With Fannie and Freddie, the shareholders may be victims again, which is likely to have an impact on the entire U.S. economy.

But what about the shorts? Won’t anybody step up to defend them?

I’m serious. Mohamed El-Erian explains today why Paulson stepped in on a Sunday night to bail out the GSEs:

It reflects the understandable eagerness to minimise forced and disorderly deleveraging in a part of the economy that is deeply interlinked with virtually everything else. The financial system is like the oil in your car. Without the oil, it no longer matters whether you have a solid engine, good brakes or fancy safety features. The car will not function.

It wasn’t that long ago that El-Erian was saying that we were leaving the financial phase of the downturn behind, and moving into the second phase, where casualties started piling up in the real economy. Clearly that was a bit premature: the financial crisis is far from over yet, more than a year after it began. And there are many more shoes which could well drop: big banks like WaMu and National City are trading at extremely distressed levels, and we mustn’t forget the whole issue of counterparty risk, which if it ever starts to snowball would make everything thus far look like a walk in the park.

Clearly, we’re in a world where the biggest risks to the economy remain financial. And it just so happens that there’s an easy and reasonably effective way of hedging those risks: shorting financial stocks. Investors around the world who want to protect themselves against market-crisis risk are likely doing just that right now, helping to drive the price of those stocks downwards. Which means that as the stocks of big banks fall, quite a few sensible investors are actually making money. Not because they’re betting on Armageddon, but just because they understand the big risks and are hedging them accordingly. Indeed, broad stock indices have been remarkably calm over the past few sessions, in the face of all the financial-sector craziness.

The share-price volatility in Fannie and Freddie over the past few sessions looks to me as though a hell of a lot of people are playing in those stocks, and that most of them are not buy-and-hold investors from years ago who are now finding themselves underwater.

Indeed, I’m almost reassured by all this stock-price volatility. Equity, sitting as it does at the top of the capital structure, is never going to be a safe place to be during a crisis. But it just might be the case that the crazier the rollercoaster ride suffered by shareholders in Freddie Mac, the safer the rest of us can feel, if that rollercoaster ride is partly a consequence of prudent risk management elsewhere in the system.

Posted in banking, stocks | Comments Off on The Upside of Falling Bank Stocks

Paulson Bailout Has Very Limited Success

Posted on July 15, 2008 by Felix

The top headline on the front page of the FT this morning:

US loans rescue passes its first test

The top headline on the front page of FT.com this morning:

US bail-out fails to calm nerves

It’s not that things have changed, really; more that it’s hard to sum up what’s going on right now in just a few words. In a lot of financial journalism, you learn everything you need to know in the headline, and the rest is largely filler. In this case, the opposite is true.

But if I had to choose between the two, I’d say that the website got it more right than the newspaper. If you’re a bondholder of Freddie Mac, then maybe you were reassured by Hank Paulson over the weekend. But as far as the financial system more generally is concerned, things are definitely still getting hairier.

Posted in banking | Comments Off on Paulson Bailout Has Very Limited Success

Extra Credit, Monday Edition

Posted on July 14, 2008 by Felix

Fannie, Freddie, Ginnie now account for 130% of mortgage lending in U.S. "The numbers are even more dramatic if you just look at the most recent period for which data are available, the first three months of this year. Total home mortgage lending increased by $313 billion. GSE lending increased by $539 billion. That’s a 172% market share!"

In Deal for King of Beers, Cash Is King: InBev’s acquisition of Anheuser-Busch is the largest all-cash acquisition ever.

Related: This Bud Might Not Be for Them: "’I’ll tell you one thing,’ said the 21-year-old concrete worker during his lunch break at The Brick of St. Louis bar, in the shadow of this city’s storied Anheuser-Busch Cos. brewery, ‘if Budweiser is made by a different country, I don’t drink Budweiser anymore. I’ll go back to Wild Turkey.’ (Wild Turkey, a Kentucky bourbon, is owned by French drinks giant Pernod Ricard SA.)"

A Rich Life: Rob Bennett responds to my blog entry on his stock valuation technique.

Guardian Buys Publisher of PaidContent Web Site: For $30 million.

Annals of Demand Response: "Metro had its highest ridership day ever on Friday, when 854,638 people took the train… 8 of the top 10 ridership days have come in 2008… and 20 of the top 25."

How to write about pointless international organisations: All hail Alan Beattie.

Posted in remainders | Comments Off on Extra Credit, Monday Edition

The Astonishing Growth of Bank Deposits

Posted on July 14, 2008 by Felix

Paul Kedrosky finds this chart of total US bank deposits in a WSJ story about FDIC insurance. But step back a minute: just look at how total deposits have grown over the past ten years!

deposits.jpg

Since 2000, bank deposits have grown from just under $4 trillion to just over $7 trillion: that’s an increase of $3 trillion, or $30,000 per household. And this during a time of record-low savings rates and soaring household debt. I’m quite sure that people aren’t borrowing money just to deposit it in the bank, so what’s going on?

I do think it’s safe to look at this chart and see very obviously the effect of Alan Greenspan’s loose monetary policy. We might not know whose deposits we’re looking at, exactly – although the rise in uninsured deposits would certainly seem to indicate that it’s the rich who got much of the benefit – but we do know that ultimately the money came falling out of helicopters courtesy of the Federal Reserve.

And maybe the next time someone asks George Bush to defend his economic record, he might do well to ask them how much money they have in their bank account today, compared to when he took office. Judging by this chart, there’s a very good chance the number will have risen substantially.

Posted in banking | Comments Off on The Astonishing Growth of Bank Deposits

The Intelligent Investor

Posted on July 14, 2008 by Felix

Jason Zweig has a new column at the WSJ, called "The Intelligent Investor":

Could things possibly get worse? I don’t know, but I am an optimist — so I certainly hope things do get worse. Nothing else should satisfy an intelligent investor.

This May, at the Berkshire Hathaway annual meeting, Warren Buffett boiled down what it means to be an intelligent investor into two startling sentences: "If a stock [I own] goes down 50%, I’d look forward to it. In fact, I would offer you a significant sum of money if you could give me the opportunity for all of my stocks to go down 50% over the next month." Knowing he owns good businesses, Mr. Buffett wants prices to go down, not up, so he can buy even more shares more cheaply before the bounce back.

I like this. But I think it’s at odds with what Zweig says later:

Investing is simple: Diversify, buy and hold, keep costs low.

In the Buffett case, you have an intelligent investor who does his homework, knows what his companies are worth, and would love to be able to buy even more of them at as much of a discount to their actual value as possible.

The rest of us are in a rather different boat. We diversify, we buy and hold, we keep costs low — but we really have no idea what our companies are worth; indeed, we’re probably buying index funds, and no one knows what the stock market as a whole is worth. If we buy stocks now it’s not because we think they’re cheap, but rather because we have a vague notion that over the long term buying stocks is the best way to maximize one’s investment returns. If the stock market then proceeds to plunge by 50%, we feel rather foolish.

Some people, like Rob Bennett, have tools with which they try to value the stock market; others spend hours looking at charts and obsessing over "cycles", trying to divine when the market’s going to go up and when it’s going to go down. But I’m not convinced that either of those are particularly intelligent things to do. On the one hand, if you can’t understand a single company, then how will you understand thousands of them? And on the other hand, if you can understand a single company, then why don’t you invest in what you understand?

For nearly any reasonably intelligent person with access to the markets, the most reliable and low-risk way of making money is to simply go out and earn it. A tiny minority of people have so much money that their earnings pale in comparison to their monthly dividend checks; I’m not going to spend overmuch time worrying about them. Investing is always something of a lottery; earnings, by contrast, are determined largely by the individual. The intelligent investor doesn’t count his chickens, doesn’t put at risk money which he can’t afford to lose, and doesn’t care too much about what happens to his money once he’s made his investment decisions: there’s no point worrying about that which you can’t control.

Too many people spend altogether too much time managing and/or worrying about their money, when they’d be much better served doing something — anything — else instead. There’s an enormous amount of investment advice out there, much of which encourages people to know exactly what they’re doing, to do lots of research before investing, and that sort of thing. That’s good advice for Warren Buffett, whose job is investing, and who doesn’t need anybody’s advice anyway. The rest of us are better off making a simple decision, sticking to it, and then just going about our daily lives. And for us, a 50% drop in stock prices would not be satisfying in the slightest.

Posted in investing | Comments Off on The Intelligent Investor

Plan B: Nationalization

Posted on July 14, 2008 by Felix

Amazingly, the Paulson statement seems to have worked! Stock indices are in not-down territory, the dollar is up, Fannie’s up 10% in early trade, and even Freddie’s up 27 cents. Even if the stocks are trading wholly on option value, every indication is that the option value is higher today than it was going in to the weekend.

Then again, at this point Fannie and Freddie between them have a market cap of $16 billion, against $5 trillion or so in actual and potential liabilities, which means that to all intents and purposes they’re trading at zero already. Now’s not a bad time to nationalize them, as Chris Whalen says:

We see a federal takeover of FRN and FRE as not only inevitable, but as an avenue to rationalize and shrink these institutions, and thereby remove a costly distraction from the Washington political scene…

JP Morgan Chase or BAC, for example, have almost as much bank-level capital as the GSEs combined supporting one fifth of the commitments.

With spreads over Treasury debt on GSE paper widening, neither FNM nor FRE can long survive – even if you could convince private investors to provide new private capital… suffice to say that with $90 billion in combined equity and six trillion in on and off-balance sheet footings, the enterprises are manifestly unsafe and unsound, and can only survive the yawning trough in real estate valuations that lies before us with unconditional sovereign backing.

I’d add that if the government pays say $10 billion to buy assets with a (current) book value of $90 billion, it might be able to get away with presenting the deal as something other than a bailout. Not that it has much choice in the matter: as Paul Krugman says this morning,

Fannie and Freddie can’t be allowed to fail. With the collapse of subprime lending, they’re now more central than ever to the housing market, and the economy as a whole.

For the time being, Paulson’s attempt to preserve the status quo seems to be working. But if and when there’s another lurch downwards, I hope he has a decent nationalization plan up his sleeve.

Posted in housing, Politics | Comments Off on Plan B: Nationalization

Parsing Paulson: The Fannie and Freddie Bailout

Posted on July 13, 2008 by Felix

Hank Paulson is a tough guy. He’s no pushover: just look at that phone call to Jamie Dimon, telling him that anything over $2 a share was altogether far too much money to pay for Bear Stearns. So what are we to make of his statement regarding Fannie Mae and Freddie Mac? With apologies to Jack, here’s the parse:

Paulson: Fannie Mae and Freddie Mac play a central role in our housing finance system and must continue to do so in their current form as shareholder-owned companies. Their support for the housing market is particularly important as we work through the current housing correction.

Translation: We can’t afford for Fannie and Freddie to go bust, and we’re Republicans, so there’s no way we’re going to nationalize them. And no one could conceivably afford to buy them. Which leaves only one option: somehow maintaining the status quo. Which is not going to be easy, seeing as how their trillions of dollars in assets are imploding daily in the biggest US housing crunch since the Great Depression.

Paulson: GSE debt is held by financial institutions around the world. Its continued strength is important to maintaining confidence and stability in our financial system and our financial markets. Therefore we must take steps to address the current situation as we move to a stronger regulatory structure.

Translation: China and other major foreign investors hold a huge amount of Agency debt, on the understanding that it’s risk-free. I’m here to tell them that, yes, it’s risk free. Nothing to worry about here. And to prove that there’s nothing to worry about, I’ll put out a press release on a Sunday night which is designed to reassure you all. There, you’re reassured, right?

Paulson: In recent days, I have consulted with the Federal Reserve, OFHEO, the SEC, Congressional leaders of both parties and with the two companies to develop a three-part plan for immediate action. The President has asked me to work with Congress to act on this plan immediately.

Translation: See? I told you I would reassure you. I have a three-part plan for immediate action! OFHEO has signed off on it! What could be more reassuring than that?

Paulson: First, as a liquidity backstop, the plan includes a temporary increase in the line of credit the GSEs have with Treasury. Treasury would determine the terms and conditions for accessing the line of credit and the amount to be drawn.

Translation: If you guys won’t lend the Agencies money, I will. Maybe. But now you know that, you won’t be worried about them any more, and I won’t even need to negotiate those "conditions for accessing the line of credit". Will I. I said, will I. Good.

Paulson: Second, to ensure the GSEs have access to sufficient capital to continue to serve their mission, the plan includes temporary authority for Treasury to purchase equity in either of the two GSEs if needed.

Translation: The panic over Fannie and Freddie wasn’t connected to any news, beyond the fact that their share prices were falling. So if I say I might come in and buy their shares, then the traders will step in and start bidding the stock up in the hope that they’ll be able to flip it to me at the new, higher, price. And then, because the stock is rising, I won’t need to buy the shares at all. Clever, eh? Well, it’s worth a try, anyway.

Paulson: Use of either the line of credit or the equity investment would carry terms and conditions necessary to protect the taxpayer.

Translation: Don’t call this a bailout.

Paulson: Third, to protect the financial system from systemic risk going forward, the plan strengthens the GSE regulatory reform legislation currently moving through Congress by giving the Federal Reserve a consultative role in the new GSE regulator’s process for setting capital requirements and other prudential standards.

Translation: When was the last time you saw a "two-point plan"? I needed a third point, and I thought that maybe a few phone calls between the Fed and OFHEO might count. Sound good to you?

Paulson: I look forward to working closely with the Congressional leaders to enact this legislation as soon as possible, as one complete package.

Translation: Congress thought it was just going to be messing around with OFHEO, but now they’re going to be asked to authorize the purchase of billions of dollars of the most underperforming shares on the NYSE. But if they don’t roll over and do just that, they’ll know that I’ll be pointing the finger at them if Fannie and Freddie run into any further difficulties. And who wants the blame for nobody being able to get a mortgage any more? They’ll do the right thing, the craven little pols. Frankly, they’re the least of my worries.

Posted in housing, Politics | Comments Off on Parsing Paulson: The Fannie and Freddie Bailout

Ben Stein Watch: July 13, 2008

Posted on July 13, 2008 by Felix

I’ve spent an absolutely wonderful weekend celebrating my sister’s wedding, so I have no appetite whatsoever for addressing at any length Ben Stein writing on "the economics of love". Trust me, the column is just as as unpleasant as it sounds.

The only thing I can even bring myself to cite is the bit where Stein quotes Braddock Hickman – the man who provided the intellectual underpinnings for Mike Milken’s reign as junk-bond king – in defense of the astonishing and stupid idea that "high-quality bonds consistently yield more return than junk". So just take this as a warning: do not read this article. It could be seriously damaging to your lunch.

Posted in ben stein watch | Comments Off on Ben Stein Watch: July 13, 2008

RSS update

Posted on July 12, 2008 by Felix

Lots of problems with the felixsalmon.com RSS feeds right now. To be sure of getting all of my Market Movers posts, Portfolio’s RSS feed for them is http://feeds.portfolio.com/portfolio/marketmovers?format=xml. It doesn’t include any felixsalmon.com content, but given the frequency of posting here of late, that won’t make a lot of difference.

Posted in Announcements, Econoblog, Not economics | Comments Off on RSS update

How Bear Markets Help M&A Dealmaking

Posted on July 11, 2008 by Felix

The FT reports on how the Dow-Rohm deal got done so easily:

Dow’s $78 per share bid represented a premium of 46 to 47 per cent to Rohm and Haas’ share price when the parties first started to negotiate, but as the company’s shares sank, that premium widened substantially. Without that market pressure on Rohm and Haas’ board, the deal might not have happened, one insider said.

By the time the deal was announced, that $78-per-share bid represented not a 46% premium, but rather a 74% premium. At that point one can see how it would be hard for the Rohm & Haas board to refuse the offer, especially considering that Rohm & Haas has only ever traded above $60 a share for one day back in April.

In other words, if you’re a strategic acquirer paying cash, bear markets are your friend, and make it much easier to get deals done. I knew there had to be a silver lining in this bear market somewhere!

Also, a quick note: blogging is going to be slim to nonexistent for the rest of the weekend, as I celebrate my sister’s wedding. Here’s to Rhian and Andy!

Posted in M&A | Comments Off on How Bear Markets Help M&A Dealmaking

The Future of News: Collaboration

Posted on July 11, 2008 by Felix

Yesterday, Dealbreaker’s John Carney told me that for the past couple of months his daily Wall Street Journal has been delivered with a free copy of the New York Sun. That kind of bundling makes a lot of sense for both papers: the WSJ gets free added value, while the Sun gets valuable high-end circulation.

Then, this morning, I visited the ft.com home page, where the top story was "Anheuser-Busch reverses hostility to InBev". Of course I wanted to read all about this latest development, so I clicked on the headline to find the New York Times logo and a byline saying "By New York Times". The FT then ran, verbatim the story broken by Andrew Ross Sorkin and Micheal de la Merced.

This, too, makes sense. The FT will never have the reach and scope in the US that it has in the UK, so it’s a good idea to team up with the NYT on breaking stories, rather than scrambling to independently report what the NYT has already found out. And from the NYT’s point of view, this is a great way of building its reputation as a business newspaper.

Of course, this deal seems to be confined to the FT’s website: I haven’t seen a NYT byline on the front page of the pink paper. I’m sure it involved long negotiations on both sides, and possibly even involved money changing hands.

In that respect, it’s short-sighted. The FT has half of a good idea: that one relatively small newsroom can’t cover everything, so it should be able to use trusted material from elsewhere at times. But it hasn’t yet grokked the other half of the idea, which is that such deals don’t need to be laboriously negotiated. Rather than run the NYT story on its own website, the FT could easily, with no permissions needed at all, simply link to the NYT story on the NYT website – or any other story, from any other news organisation, which the FT felt was important.

It’s called external links on the home page, and it’s an idea I’ve been advocating for some time, not only for the FT but for all news sites. So far, no one has done it, unless you consider someone like Drudge to be a mainstream news site. But it makes all the sense in the world. A website with no outbound links is deliberately denying itself a huge amount of the value which publishing online can provide. And no, having a few blogs buried on the site somewhere doesn’t constitute real outbound linking: I’m talking links on the home page, here, and on the other news pages too.

Frankly, I don’t understand why no one has yet done this; it’s a pretty obvious thing to do, and if the web has proved anything, it’s that the more you send people away, the more they come back. Any speculation on which major news site will be the first to be bold enough to go down this route?

Posted in Media | Comments Off on The Future of News: Collaboration

Extra Credit, Thursday Edition

Posted on July 10, 2008 by Felix

Guru Returns Show Just How Tough the Going Has Been Lately

Yahoo must call time on Jerry Yang: "Microsoft makes software, Google does search, Facebook is a social network. Yahoo is purple and has an exclamation mark. When asked at a Journal conference last month what Yahoo was, Mr Yang replied: ‘We want you to start your day at Yahoo.’ You could equally say that of a shower, a café or a train."

RateSpeed: See not only your mortgage rate, but the wholesale rate too!

Why Most Who Lose Their Jobs Don’t Get Unemployment Benefits

More Oil: "The pleading for government to do something about gas prices is kind of absurd. For a capitalist country, we sure don’t have much respect for price signals." Oh, and also: Welcome to a world with $500 oil.

Posted in remainders | Comments Off on Extra Credit, Thursday Edition

Why Force Your CEO to be Chairman?

Posted on July 10, 2008 by Felix

Gary Wilson finds an interesting bylaw in some of America’s bluest blue-chip companies:

Such companies as General Electric, Coca-Cola, Exxon Mobil, UPS, Deere, Caterpillar, CSX and Johnson & Johnson actually have bylaws that require the CEO to also serve as chairman.

I’ve been racking my brain, and can’t think of a single reason why such bylaws should be so common. It’s hard enough to think why the CEO should also be chairman at the best of times, but in exceptional circumstances maybe that can genuinely be what the board thinks is best. It does seem obvious, however, that such determinations can only be made once you know who the CEO is.

The two jobs are different, after all, and require different skillsets. Is it possible that a CEO will also make a good chairman? Yes. Is it necessarily the case? No. By adopting such a bylaw, the board is tying one hand behind its back when it comes to the CEO succession process. Not only does it need to find someone who will be a good CEO — which is hard enough — but it needs to confine its search to people who would also make a good chairman. And that’s just self-defeating.

Wilson says, reasonably enough, that combining the positions of chairman and CEO creates the "Imperial CEO". I would expect to find Imperial CEOs in young companies run by their founder, like Oracle or Whole Foods; I’m surprised to find Imperial CEOs mandated in much older companies like GE and Coca-Cola which are many generations removed from their founders.

Wilson would like stock exchanges to require that when a company names a new CEO, it must also name an "independent director" as chairman. I think that companies should do that; I’m not at all sure that it’s the role of stock exchanges to force such a thing, however. But put that to one side: companies with bylaws forcing the same person to fill both roles should either abolish those bylaws, or else come up with a good reason for their continued existence. At least give the board the option to split the roles!

Posted in governance | Comments Off on Why Force Your CEO to be Chairman?