Cash For Clunkers

Our family is not well known in automobile showrooms. We tend to buy sturdy cars and drive them for decades. My wife's Omaha car is typical. A 1999 Lexus RX300 with 95,000 miles.

It runs like a champ and hasn't had any mechanical problems.

Still, its ten years old and she was contemplating a change even though car ownership in Nebraska is punitive as autos are taxed annually as property. So, if you buy a Mercedes you have the equivalent of an out of the way lake house. The "Cash for Clunkers" proposal and its $4500 tax credit was a possible way to take the sting out of Nebraska property taxes.

The Clunker bill showed up as part of a war funding package Friday and it is like most legislation: worthless. The Clunker has to get less than a 18MPG city/highway rating to qualify and then you must purchase a vehicle that gets 2MPG better mileage. The Lexus doesn't qualify as it is rated as more gas friendly than a Clunker. So ten year old SUVs cannot be taken off the road with this wonderful sounding piece of legislation.

What will qualify? Evidently older cars and trucks. Since most people don't start with a Lexus quality car, the drivers of 10+ year old vehicles are probably the second, third, or fourth owners of these cars. My assumption is that with our new, tighter credit standards they will not come close to qualifying for a car loan on a new car. Unless the government strongarms GMAC, Citi, and Bank of America into making those loans to the uncreditworthy. I wouldn't put it past them.

The success of this legislation will be marginal at best. Not many new cars will be sold as a result. Our leaders in Washington will pound their chests and tout the benefits to the economy, the auto industry, and our environment, but it is just another instance of looking like progress rather than progressing.

DON'T BUY THE BRIDGE THEY ARE TRYING TO SELL YOU

The market's 10%ish run up last week was sustained by: the nation's three largest banks saying they were profitable during the first two months of the year, General Motors decision not to use the March allotment of bailout funds, and a smaller than expected decrease in retail sales in February compared to January's results. Stocks were ready for a run and they liked what they heard.

Now lets think about those three developments. Banks should be wildly profitable when funding costs are near zero. The issue that remains with us is was the loan loss provision adequate and will they still need new capital that will dilute common shareholders? The answer to the first part of the question is no, while the last portion's answer is yes. Even with boatloads of help from the Fed and Treasury, banks are going to have a rough decade ahead as they learn how to be conservative lenders again and develop a cost structure that fits their diminished earnings capacity. GM said they didn't need the money in March, they publicly said they were not saying that they no longer wanted it available. Until car sales start growing GM will be under pressure and there are no other lenders, since bankers have developed an appropriate understanding of risk, other than the Federal Government. On retail sales, one months result is not a trend. Spending is weak and will stay that way for a long time.

So why did the market's participants get excited? Because it was time and lots of short positions got covered. The good times may extend another 10%. But remember that a 20% run up only gets you back 10% of your losses. The market's decline has been brutal and I feel she isn't done torturing us. She's offering to sell us the Brooklyn Bridge right now and I suggest you take a pass.

Just say no to committing new money and use the market's euphoria to lighten up on positions. Outside of another 10% upward, the probabilities, in my view, are greater that we continue down as opposed to a sustained up trend. 

Merger Arbitrage As A Substitute For Cash Equivalents

The past fifteen months have been instructive to all investors. Painful as well. No one, including myself, has had the right vision that resulted in consistent profits. Even short sellers closed out profitable trades and bottomed fished stocks that negated their short vision. 

The world is awash in cash and it yields virtually nothing. Nobody's ready to jump back head first into equities, government bond yields are extremely low and a bubble is percolating, the recession makes corporate bonds appropriate only for amateur credit analysts, municipals are going to see tax collecting problems and defaults, and bank CDs are very low yielders. An exception to the last statement is available for those that are willing to put money into the country's worst banks in amounts that are under the FDIC umbrella.

So what do you do with all of the cash you've pulled out of equities? Cash , while keeping you solvent, doesn't grow net worth, send the kids to college, pay for retirement, or let you sleep well at night when you're worrying about the foregoing. Wrigley, Budweiser, Puget Sound Energy and other merger arbitrage opportunities have offered very attractive returns, far superior to money market investments.

In normal times merger arbitrage is a game of pennies. This past year, with the credit markets in turmoil, the spreads available to willing investors have been generous. Certainly, and especially in this market, all announced mergers are not completed and an investment in the acquiree can end up in a loss. but deals are still getting done and the spreads, at times, have been exceptional.

Wrigley and Bud allowed the arbitrageur to buy shares, at a large discount to the closing price, after almost all of the risk was removed from the transaction. Puget Sound was, and is still, a very similar situation. Several weeks ago the stock was selling for $23 and the takeout price price was $30. There was some risk of the deal falling apart, but if it did, you would still be left with a good utility that pays a dividend. It wouldn't be the worst investment in this market. Since then, the final regulators have blessed the deal, closing has been set for February 6, the company has said they will pay an additional pro-rata dividend till closing, in addition to previous shareholder approvals and regulatory approvals. Still, you can buy PSD for about $29 and get back $30 on or near February 6th. Put $29 in a savings account, money market fund, or any other short term investment and see if you get back $1 in a years time. Yes, it's possible the deal won't close, the Attorney General of Washington has until January 29 to appeal the approval that his office has already given, but the odds are looking very good that money can be put to work effectively in this arbitrage.