Oops, I goofed on the # of new shares issued & book value

I took a shortcut and made a mistake. I had the wrong number of additional shares that were issued for the $7 billion. The company has 2.1 billion shares outstanding and about 21 billion in capital including some preferred. Book value is about $10 per common share. The LLR is said to be adequate, but bound to be light. But the dividend cut and expense reductions will help self fund additional losses. Either way I’m betting that you can buy the common for 50-75% of a solid book value. The price should rise as that is confirmed.

I haven’t done all the work yet, but NCC has a series F preferred that is yielding about 12%. If I’m willing to buy the common because of the new capital and dividend cut, I should be very comfortable with the preferred. Especially a preferred yielding 12% and the dividend should be secure. I don’t know how readily available this series is and if it can be bought in smaller lots.

I hope this week is more fun than last week.

I could be too early, but I’m in after the dilution.

For over a year TV types have thought it was a good time to buy financials. They’ve all been too early and had their collective asses handed to them. I’ve taken some contrary positions and been lucky enough to make money over the same timeframe. I don’t think the group is done suffering. I think there will be more dividend cuts, capital raising, and failures.

I’ve recently bought NCC because I think it has a chance to be a 4 bagger over the next couple of years if it doesn’t FAIL!!! Obviously I think they won’t fail, but it could be worse than I believe.

Why am I willing to go where no one should? Mainly it’s because NCC has recognized much of the negatives that are still coming for other large regional banks. They were among the first to sell their sub-prime subsidiaries, stop dealing with brokers, and recognize lots of related losses. However they still have lots of exposure in real estate. They have already mostly eliminated the dividend and raised 7 billion of new equity to shore up the balance sheet. So dilution has already occurred and the downward pressure on share price that accompanies dilution and dividend cuts has already happened. Loan loss reserves are huge and hopefully close to adequate with quarterly provisioning. Finally they are under a Memo of Understanding with the regulators and that will keep their feet to the fire.

At present NCC has the highest capital of all large regionals and a very large loss reserve. They certainly have losses to take, but the new $7 B gives them some leeway with regulators. At $5ish share price you are buying the company for less than 1/4 book!!! If the reserves are still way inadequate you may be paying less than 1/2 book. The new equity has put Tier 1 capital at over 11%.

Already being a NCC shareholder pre-disaster would have been terrible, but it is a reasonable bet at the present price. It is also a price that is the same as the private equity got when they agreed to save them. Now the big question is... did JP Morgan [ actually Corsair Capital ] do a good job of due diligence and then sandbag a good price? Well who knows. But, JPM bought Bear Stearns for $2 per share and then were intimidated into raising the price to $10 before closing. Several days ago JPM officially stated that they got a tremendous bargain in the deal. Did they price this one similiarly? I hope so.

While I won’t ever know what the new equity thought, I do know that I won’t get diluted as NCC won’t be able to go back to the well for more capital, they can’t meaningly cut my dividend as they have nixed most of it already, and the market already knows they are under close scrutiny from the regulators. If they’ve done a good job of provisioning, and they started earlier than others, then I’ve bought a well capitalized bank that is the country’s 10th largest and will eventually earn reasonable money again. As that starts to be known the stock price should start to return to book value, or greater, which would be a very nice investment.

Lets hope I’m right.

TSO, ADM, and RMIX updates

I last wrote about non-integrated oil refiners as being attractive as margins would widen when either the price of oil decreases or the rate of change slows. I felt brilliant until Thursday and Friday when I gave most of my profit back as oil surged. The good news is that TSO is still attractive on a cashflow basis and their margins, pre Friday have been steadily rising. If TSO falls further I intend to buy more as I still like their earning power as some of the froth comes out of crude oil.

That froth is going to come out. No, oil isn’t going to fall like a rock, but it is going to retreat. It may climb to $150 before the retreat starts but retreat it will. Demand has grown, but nowhere near the percentage price increases we’ve seen in crude. The catalyst for a lowering of the barrel price will be commodity market reporting and classification changes that will limit positions. The investment bank swaps exemption will be curtailed also.These changes will dampen unlimited buying opportunities that currently discourage short selling.

Additionally, the Fed is likely to attempt to talk up the dollar as the dollar decline has been a major player in the assent of commodity prices and resultant inflation. If the Fed doesn’t get its arms around oil and commodity prices soon it will have a huge inflation fight on its hands. I think the boat has already sailed and we will start to see increased rhetoric from the CFTC, the Fed, and the treasury all aimed at a stronger dollar and lower commodity pricing. While the ECB surely didn’t help matters Friday with the comment about maybe raising rates, and thereby srengthening the Euro vs the dollar, it would not surprise me to see some coordination between central banks to tackle commodity induced inflation as both continents will pay the price if inflation surges out of control. So far it is only raging on inputs, payrolls will soon follow if progress isn’t made.

Therefore I continue to think crude oil will start coming down after the jawboning/rule changing starts and I think refiners will drag their heels on the price of fuels and margins will expand. Along with the expanding margins will be the price of their stock.

The market has pounded ADM lately and another of my profitable positions has eroded. The company has done very well financially so the decrease is due to the dissatisfaction with ethanol producers , a projected smaller crush spread for soybeans, and a planned equity offering. I like the minor initial dilution of the equity offering as it gives them flexibility in bad times, think the ethanol concerns will lessen, and analysts are not great predictors of crop yields and pricing. But if the world is short of food, ADM is going to participate and I plan to add more shares.

RMIX, the little concrete company that I originally bought as a hedge against my MLM puts but fell in love with, has risen to the point that I’m gone. The shares moved up from the 2’s to 6 and I was happy to capture the gain. I was ready to go to the darkside again on MLM at about $118 but I procrastinated and never got around to it. It has since fallen and I’ll watch the price action.

My fingers are tired so adios amigos.

Non-Integrated refiners look promising!

People are always asking me if I’m finding anything interesting to buy. Their inquiry is always aimed at owning stocks that will increase in value. My answer has mostly been, NO. I continue to believe the economy is weak, the rest of the world will follow, and either inflation or credit concerns will push bond prices lower and yields higher. I don’t see a broad stock market rally that lasts. To believe that, you have to believe that governments solve problems. I don’t, so my view is government meddling will prolong the malaise that we will endure. As I’ve opined before, we aren’t going into a depression, but it will be a period where a person is satisfied with holding a net worth together and the accepted view of a good return is much, much lower than the one we learned to expect in the 1990s. That’s why I viewed the Wrigley opportunity as such a great gift. A “riskless”, above market return!

Before I write about the one long position that has interested me, besides Wrigley, I’ll spend a paragraph confessing my losses in Flowers Industries [FLO]. I may have written about this, I didn’t bother to check, as I thought the company was a worthy negative bet. To set the scene, FLO makes bread and is a heavy user of flour, veg oils, and diesel fuel among other commodities. All of their competitors had been selling well off their 52 week highs and were reporting lousy earnings for the latest quarter due to the above. FLO continued to trade at an all-time high. My bet was that rapidly rising commodity prices would affect this baker as well as its competitors and like companies. I bought a largeish number of puts the day before earnings were to be announced and would either make a nice profit if their results tanked or would suffer a small loss if they managed to do better than the prior year. Well they blew away the analysts expectations, raised guidance significantly, and then increased the dividend by 20%. A trifecta of pain! The stock went up so fast I couldn’t get out of my puts with only minor suffering and am now hoping for a major miracle befor mid June when they expire. In essence, based upon current pricing, I will lose all of my premium. I was too smart for my own britches. The wallet now fits into the back pocket of those britches better as it is lighter.

Now, after that confession, I’ll mention the stock that has earned back my FLO losses plus a decent amount in the past several weeks. Tesoro [TSO] is a refiner with some service stations. It trades like a refiner, not an integrated oil company. It was killed by the spike in crude oil as it couldn’t raise gas prices as fast as oil was jumping. Earnings were terrible and the stock dropped like a rock, as did all refiners. It has made a nice move, but can still be bought today at very reasonable multiples of cashflow.

I liken non-integrated refiners to commercial banks. Banks make more money when rates fall than they do when they rise as they are able to lag the market downward. Refiners will react the same way. As the price of their crude inputs decrease, they will sandbag the price of gas. The result is exploding profits which are fair as they have sure had exploding losses as crude raced upward. Those margins are already expanding and that has driven the share prices upward. The obvious bet here is that oil has stopped spiking and will either decrease more or increase at a slower pace. Either will be favorable to TSO. If we get rapid spikes again then refining will be no better than a bakery.

As I continue to evaluate the wiseness of this long position, Wrigley and inverse bonds are earning me good returns and, as of late, negative bets have been good-but that seems to always change.

I’ve been working on a list of stocks that I want to buy a year or so from now, but that may be another post.

Wrigley is a fat pitch-swing hard

It has been one month since I last wrote in this blog. I’ve a bad cold, the flu, and travelled back to Nebraska for the Summer. I also was constantly reassessing my view of the stock. Was it correct or was I just another pompous idiot that would lose a lot of money.

I’ve convinced myself that my negative view of the economy and the market is correct and not the product of my flu delusions. The deleveraging of thefinance system and the reduced spending capacity of the consumer will not disappear with a few hundred dollars in rebates. We are not set for a Vee shaped turnaround in the economy or market. My view is correct and I’ll continue to march that way. Keep in mind that I’ve never gone 100% to cash and the darkside. I’ve held a long-term portfolio of companies like Wrigley that have performed well during this bear market rally and I continue to do nicely in either direction.

Speaking of Wrigley, the market is giving us a wonderful present. I happen to hold a pile of cash. Goldman Sachs is giving me 3ish percent and I’ve been happy. Wrigley will give me 6.5%-13% over the next 12 months and it will return to cashwithin a year at a time that is more likely to offer stock market values. I feel I’m increasing my return without deviating from my strategy of being able to capitalize on low stock prices.

Mars is buying Wrigley for $80 cash. They’ve said it will close in 6-12 months. The biggest risk is the EU. They like to mix it up on all big mergers. I believe the companies will get all regulators to approve and it is a slam dunk approval from the shareholders. Financing is in place from the world’s three biggest, and best, financial firms: Berkshire Hathaway, JP Morgan, and Goldman Sachs. The financing is set. It isn’t a “term sheet.” Mars is confident in its due diligence as the breakup fee is 1 Billion! All the participants are quality operations; not the suspect deal-doer types. Mars will soon own Wrigley and WWY shareholders will have $80. cash.

You can buy WWY for $76. When the deal closes you will get $80. You make $4 plus the dividends that you collect. At $.33 a quarter and a 9-12 month close you’ll get another $1 or $5. Depending on how fast they jump through the regulatory hoops, you will earn between 6.5 and 13%. I believe thsi is the proverbial “fat pitch.” Plus a 2009 closing moves the gains many months away.

On the darkside I think Flowers Foods is headed lowerwhen it preannounces or reports on May 22nd. FLO is basically a bread manufacturer.It sells at an all-time high! It is a good company, but is facing headwinds. Nobody else in its industry has avoided those winds. The big guy, Interste Bakeries is in bankruptcy and continuing to do poorly. In the past several days a host of similar companies have reported and all did horrible.JJSF had eps down 25% due to rising costs, especially flour.LANC was a disaster; about a third of the company is bread. Same reasons.LNCE saw eps down 90% due to flour and vegetable oil price increases. TSTY did twice as bas compared to ’07 for the same reasons.

Unless FLO has a lot of long term contracts, or they are much better than their competitors in passing on price increases, they will have problems. Flour, oils, sugar, electricity, and diesel for the delivery trucks all have been on a rampage. BUD had problems. Those commodities have been damaging.All of the prementioned companies were selling well off their 52 week highs before earnings. Not FLO. It keeps going up. I think it will fall pretty hard.

I’m tired of typing and feel the coctail hour is near so happy trails to you.

It's hard being "Mr. Know-it-all"

I should be happy because I am effectively hedged and have done well since the market peaked in October. I’m only down a few bucks, am sitting on lots of liquidity, and am ready for any buy signal that makes sense. But being hedged and keeping money isn’t the same as making money. Making money is exciting, breaking even is dull.

Given today’s large move, should an investor put cash to work and ride equities upward? Today’s catalyst was UBS’ loss of billions and their decision to dilute their shareholders by issuing replacement capital! To top that decision, they got rid of the offending CEO and made their General Counsel the new chief! So on that wonderful news the markets took off. We’ve seen this numerous times and they have always backed off. Will this time be different?

Let’s look at what could cause the markets to move upward and stay up.
1. Earnings are good for the 1st quarter and guidance isn’t depressing, merely cautionary.
2. Commodities take a dramatic and sustained move down, easing cost pressures on businesses and consumers.
3. The current disconnect between bonds and stocks is corrected by yields lowering still and allowing P/Es to expand.
4. Europe and Asia show that they truly are decoupled from the US economy and US exporters provide vigorous guidance.
5. Companies regain confidence and decide to continue to support their stock price by using their cash and new debt to repurchase shares as opposed to conserving cash in tough times.
6. Hedge Funds and Private Equity find a way to continue to employ huge amounts of leverage to continue business as usual.
7. The consumer proves to be resilient, continues to find credit and uses it, rather than taking a breather and foregoing un-necessary purchases.
8. The Fed’s rate cuts and the President’s stimulus package work perfectly and banks continue to lend and consumers continue to spend.
9. The Fed announces that all banks, investment banks, insurance companes, and large pools of capital have taken all their losses and remain well capitalized.
10. Housing starts drop to a level that inventory starts dropping and
the glut starts clearing, leading to a potential rebound in building and employment.
11. Commercial real estate doesn’t slow and CMDOs don’t develop into a problem area.
12. The consumer is able to handle his home equity line and credit cards without the ability to refinance.

If all twelve occur we are off to the races. If half develop we will continue to tread water as we have lately. If only a few of the above items materialize the market will go lower, for a longer period and breaking-even will feel wonderful, not like kissing your sister.

Since I write these missives to myself to see if I’m thinking logically, let’s go through the twelve for my take on the odds.

1. Freight is down, housing is down, recreation is down, financials are cutting back, costs are sky rocketing. S & P earnings will be poor, analysts’ estimates will be reduced and there will be lots of hedging on guidance, very few clear views of the next 9 months.
2. Recessions usually take care of cost pressures through lack of demand, but with a weak dollar and many commodities in unstable lands we may see pricing stay high longer than in the past. Agricultural pricing looks fixed for the next several years putting pressure on food prices. Any admission that inflation is higher than the CPI and commodities will soar.
3. Yields are going to increase as the credit crisis wanes and investors see that we are just in a slowdown, not disaster. Then they will demand greater rates to compensate for inflation.
4. This will help, but the UK is slowing now and Europe won’t be far behind. Guidance from multi-nationals will not be robust.
5. These guys aren’t stupid, they will conserve cash as they’ve seen companies like Bear Stearns go down overnight when credit gets pulled. The days of huge stock buybacks to disguise option grants, juice eps, and keep share price up are over. Conserving cash and reducing debt is the tactic du jour for the time being.
6. The banks won’t let them and the Fed will be watching the banks. The days of huge leverage are behind us. Margin requirements will be tightened and covenants strengthened at any opportunity. Steely-eyed bankers will return.
7. The consumer is tapped. Wages haven’t kept pace with costs and consumers have made ends meet by refinanceing and borrowing. Those days are over because securitization is over. The car business may be next as they were writing 8 year loans and that phenomenom may be close to over as those credits won’t be allowed on balance sheets and nobody wants to buy them in this climate. Credit card delinquencies and losses have been OK, but they will come under pressure also as lenders tighten up.
8. Banks are collecting, not lending and consumers will send their stimulus checks to credit card companies giving them and the creditors some respite. There won’t be many goods purchased with the money.
9. There are more losses to come and huge amounts of loan loss provisioning resulting in continued pressure on bank earnings and capital.We are not in the 8th inning of bank problems.
10. Inventory is still growing as builders haven’t reduced starts enough yet. House prices are still unaffordable for many in this country. Therefore prices need to come down further or wages need to increase. The spill over of depressed housing will continue to affect many other industries.
11. Commercial real estate growth will taper off, but probably won’t fall off a cliff like housing. Thus the CMDOs will be mostly OK.
12. Credit cards will be the next bad area after we get through mortgages and HELOCs. The stimulus payments will postpone this reconing till mid- summer.

I’ve convinced myself that things aren’t going to get better quickly. We are in a consumer led problem and this will not be solved by government programs. The problem developed as wages didn’t keep up with expectations and that shortfall was made up with borrowing, mostly against real estate. Now the ability to borrow has diminished significantly and the consumer’s spending patterns will change as a result. The consumer is a huge portion of our GNP and the reduced spending will have a dramatic impact on corporate earnings.
The problem that bubbled up through subprime will be with us for quite some time and stock prices will not march upward quickly.

Have we made a bottom?

This truly is Good Friday. The market isn’t gyrating up or crashing down. It is a day of peace and reflection. Time to reflect on the market’s recent euphoria in celebration of the Fed rate cut, rescue of Bear Stearns, and retracement in commodity prices. Have things changed? Have we seen the bottom? Is it time to back up the truck and load up on equities?

I don’t think so. We may have plateaued as far as the impact on the major institutions of the “credit crunch.” Just as the institutions abandoned all of the historical lending norms to put volume on the books, the regulators have, or are about to, changed the rules so that the crisis will not be as severe and immediately painful.

Here are a few of the changes:
1. Investment banks can now access the Fed’s discount window for funding
2.The funding can go up to 28 days and be rolled-over and over
3.Collateral can be mortgage backed bonds and the margin is less than the market’s pricing
4.Fannie and Freddie are now allowed to maintain less capital which allows them to leverage their balance sheets an additional $200B.
5.Bear Stearns is shotgun married to J.P. Morgan with the Fed’s blessing. The common shareholders are essentially sacrificed to keep the bondholders whole and avoid a cascading of credit defaults in the derivatives market.
6.Margin requirements are changed on commodities futures with the aim being the a reduction in the inflation inferno.
7.Finally, this will happen soon. Under the charade of fairness, since all types of institutions are not required to mark to market their securities, regulations will be weakened allowing bond pricing at cost if the company says they are held till maturity. The market marks become a footnote item and the write-offs are rebooked and capital is replenished. Nothing changes except everyone is now happy and the losses will dribble out over time.

Regulators and Wall Street need to “put some lipstick on this pig” to calm the markets, but they also realize they need to de-leverage the economy and try not to let this crazed lending/securitizing happen again. So, losses must be taken. Who will they let fail? I think they are going to let the losses bubble up from the bottom of the credit heap which will hurt smaller companies and give the big banks a couple years of yield curve profits to help rebuild their balance sheets. The big guys won’t get off easily as the Fed’s will demand dividend cuts, new capital through rights offerings and expensive preferreds., and curtailing credit to make capital go further.

The last item is the economic killer. It’s already happening on main street. Community banks have lent too much, too easily to builders and developers and the delinquency numbers are growing rapidly. Losses will be large and lots of banks will be shotgunned. Individual creditors won’t be missed as they are too small to be noticed.We’ve already seen this in mortgage brokers, small builders, and real estate related service companies. Retail can’t be too far behind. Recreational manufactureres like boating and RVs are hurting and general freight movement is getting softer. The jiggling of regulations may keep big institutions alive for now, but it won’t stop a serious recession since big and small banks, as well as the CITs and captive finance companies, will need to curtail lending.

Not only will the banks reduceB lending now that they have realized that they’ve been stupid to sacrifice prudent risk rules for growth, but consumers have seen the dangers of spending and borrowing frivolously. Even when offered, many consumers will say NO. It’s going to be difficult to gin up the economy through debt.We, as a country, may have to start making things again that the rest of the world wants and export ourselves back to prosperity. But that will take years.

All this rambling convinses me that we aren’t near a bottom as the economy will continue to weaken and analyst’s forecasts will have to come down and with lowered future cashflows you will see lower P/E ratios. So I don’t plan to borrow a pickup anytime soon to start loading up on stocks.

For now make a list of all the stocks you would like to own and keep that at the ready. You’ll get your chance, but not now. Like Charles Barkley says: “I could be wrong, but I doubt it.”

Let’s hope foreign investors don’t bolt

It wasn’t too long ago that Bear Sterns was trading at $100 and I was in the money about $20 on a number of put contracts. I took a very nice profit because I couldn’t really tell if BSC was broke or going to be fine. Joe Lewis had just invested 1B and the Chinese put in another 1B. They had access to the books and I only had my gut that told me that Bear was riddled with terrible risks that they didn’t understand. Today JPM bought Bear for $2 per share and Lewis and the Chinese have lost their B’s in a short 120 day timeframe.

Asia is tanking tonight and Europe will follow. The rapid BSC decline is scaring the beejesus out of investors. How can you tell who will be next. It could be JPM! I doubt it, but we don’t have a true picture of any financial institution. Financials will get killed and the talking heads that have told people to buy because the banks are so cheap should be shot. How can you recommend a purchase when the balance sheets don’t even tally all the risks? Managers, directors, accountants, investment bankers, and stock hypers have really done a terrible job. The only place to be near a financial is short the ETF’s.

The Fed will continue to lower short rates and target their financing. The lower short rates are necessary to allow the damaged banking industry to borrow short and lend longer at a decent spread and hopefully earn their way out of this mess. But this will continue to hurt the dollar and foster an eventual demand for higher rates on the longer side of the interest curve. If foreign buyers flee the US bond market as well as the stock market, we may get higher 10 year rates soon.

I’ve been hunkered down, should have hunkered more, and can sleep nicely at night. When the next Fed inspired rally moves stocks up I will continue to lighten up. As i’ve said before, I want to have the ability to buy as things get worse and it sure seems like they will. The bankers will continue to lead us downward.

The bottom isn't here yet

I’ve done almost everything right to protect myself and make money during this downturn. Almost. The part I didn’t get correct was the magnitude of my positions. I’ve kept too much still in long equities and they’ve hurt me. From the peak in October, I’m down 4%. That’s a lot better than the “market”, but it could have been much better had I not been so conservative. Even so I have “most” of my powder dry and can participate when the bottom is put in. Will I be able to recognize the bottom or will I be like many people and still bearish for far too long and miss the big opportunities that will develop?

I think we’ve got the better part of a year ahead of us before the market finds a bottom. The banks are actively curtailing credit and that will slow the general economy. A slower economy will lead to earnings disappointments and lowered guidance. That leads to lower stock prices. If I’m correct on rising inflation, like I’m confident I am, that will lead to lower P/E multiples to correspond with lower earnings. Over the next few quarters stock prices will go lower.

People are not vomiting yet, but they will as the above unfolds. Too many are counting on a quick reversal to good times. As that dream fades prices will drop. Make sure your portfolio is vomit proof. Allow for a few verps, but do not get killed before the low prices arrive. I intend to take more money off the table when the fed lowers rates and the market rallies. The goal is to have all your money when the prices get compelling. We aren’t there yet!

Aaaaaah where are we heading?

Nothing has changed in my view of the ecnomy and stock market. Therefore I haven’t seen the need to write a new blog entry. Credit policies have been weekened during the past 20 years. Risk management has been surplanted by sales programs espoused by management consultants. Credit has been sacrificed for sales and the sales culture has been justified by unrealistic loss expectations. Ergo, we are in a period of shrinking credit to save capital which leads to a slow economy. The lending multiplier is dead for the near term.

Until the rest of the world stalls like the USA, we are going to face continuing, increasing, inflation in raw materials and pass through to all goods. Growing inflation will lead to higher bond rates and gold prices. Stagflation is unavoidable. The banks have hampered the economy and the weak dollar and thriving foreign economies have caused inflation to march forward.

I’ve continued to lighten equity positions on any rally and will be severely harmed if the market rallies and I’m wrong. But, like Charles Barkley, I don’t think I am. So, I continue to bet against the market, buy short term bonds, and bear market long bond ETFs. I’ve also been buying some munis.The place not to be is in the equity market. It smells like before the tech bubble burst and people knew it didn’t make sense, but it still went upward. This time the credit markets seem in terrible disarray, but everyone still believes the stock market is the place to be. I’m betting they are wrong. When banks don’t lend the economy sinks. When the econmy sinks you don’t want to be in stocks. With stagflation you also don’t want to be in bonds so you need to either stay short in duration or benefit from rising rates through TIPS , bear market ETFs, gold ownership, or short equity bets.

I may be wrong, but I feel a lot like Bernard Beruch and I hope I do as well as he did.