Harry Newton's In Search of The Perfect Investment
Technology Investor. Auction Rate Securities. Auction Rate Preferreds.
8:30 AM EST Thursday, June 19, 2008: There's
only one theme today: Be ultra-wary of Wall Street "product". Simply,
If they screw up managing their own money, how can they be trusted to manage
yours? Keep reading.
failure of "risk management." That's
the big topic on Wall Street these days. An alien force has invaded, messing
everything up. It wasn't our fault. It was The Force. Of course,
it's all B.S. It WAS the peoples' fault. How should we view our personal
risk management? Questions to ask:
1. What's the
worst that can happen? Can we lose all our money? In a surprising
number of psuedo-attractive investments, the answer is a resounding YES.
2. If things are going bad, how fast can we bail? The fastest bail are
investments like insured savings accounts. The slowest are private equity funds.
But right up there are troubled hedge funds and insider shares with lockup provisions.
Little is more frustrating than watching your investment collapse day-by-day
and being able to do anything about it.
3. Do we have
control? Unless we are CEO and own the company, the answer is NO. Nobody
listens. That's a general rule. But it's remarkably accurate. Trust me. They'll
only listen to you when you agree with them. That's called flattery,
4. After taxes,
how much will it pay? Earning 13% sounds great -- unless the income is "ordinary"
and the taxes will kill you -- even if you do actually get paid.
5. Is the security
really worth anything? Land out west has dropped 75% in value and can't
be sold today, anyway. Personal guarantees are worthless if the guarantor's
main assets are lands out west. You get the idea.
6. What do
you know about what you're investing in and the inevitable gotchas? Everything
has something untoward that happens. Amateur investors don't know the untowards,
also called gotchas -- even if some are spelled out in the "Risks"
part of the prospectus (if there is a prospectus) What "logic" says
that Morgan Stanley knows anything about the price of electricity? Keep reading.
So, why didn't
I sell Morgan Stanley short also? (Because I was playing tennis.) From today's
Wall Street Journal :
Gaffes, Bad Trades, Woes In Managing Risk Mar Latest Results
There are two ways that an investment bank can blow it: the Lehman way or,
as seen Wednesday, the Morgan Stanley way.
While the woes
afflicting Lehman Brothers Holdings are the result of a balance sheet weighed
down by toxic assets, Morgan Stanley in its fiscal second quarter, ended May
31, was tripped up by bad trades, poor management and investments, as well
as less-than-stellar risk management.
gains related to the sales of assets, Morgan Stanley's net profit of about
$1 billion would have been closer to break-even.
The firm did
take some balance-sheet hits, on things like leveraged loans, commercial real
estate and securities backed by troubled monoline insurers. But investors
should perhaps be more worried by a bad bet on the direction of electricity
prices and a $120 million loss due to a rogue trader.
Officer Colm Kelleher acknowledged that Morgan faced a tough quarter, both
in terms of market conditions and trades failing to work as planned. But he
added that "more often than not, we get those right" and that the
firm "continues strengthening our capital and liquidity positions."
stock rose Wednesday, suggesting investors were willing to shrug off the quarter.
That might make a lot more sense if the company's shares were cheap. They
a beating this year, the stock still trades at nearly 1.5 times tangible common
equity of about $29.5 billion, which excludes junior subordinated debt that
the firm includes in its own calculation of this figure.
clearly deserves a better valuation than Lehman, which trades at 0.7 times
tangible common equity and is deservedly at a lower multiple than Goldman
Sachs Group, which trades at about 2.15 times. Still, it is tough to justify
Morgan Stanley's premium until the firm shows it has the basics under control
and can prevent its traders from causing whiplash volatility.
Take a look
at the performance of Morgan Stanley's fixed-income business in the second
quarter. Revenue at this key business plunged to $414 million from $2.9 billion
in the first quarter.
it is almost impossible for outsiders to tell how the sharp decline came about.
Morgan Stanley's commodities traders, for example, placed some bad bets on
North American electricity prices, but the firm didn't disclose how much that
contributed to the decline in fixed-income revenue.
may be willing to give the commodities unit a pass this time, the market has
no tolerance for sloppy risk-management -- and that is another factor that
could weigh on Morgan Stanley's valuation.
The firm's record
doesn't appear to be improving after a trading strategy went badly awry in
the fourth quarter of fiscal 2007, leading to massive losses. In the second
quarter, Morgan Stanley booked a $120 million loss after a now-suspended London
trader improperly valued trades that apparently went undetected for at least
can't fumble this way and hope to be spoken of in the same breath with Goldman.
regional banks suffer. Fortunately I have warned
again and again: Stay away from financials -- big national banks and little
regional banks. Four banks have already failed this year. More will. Do not
keep more than $100,000 in any one bank. The disaster in banking is unfolding
faster than anyone imagined. Do not try and pick the bottom -- i.e. Do not
try to catch a falling knife.
New York Times has this gruesome chart.
And this gruesome story, which I've excerpted:
From Bad Loans Rocks Regional Bank by Eric Dash
In Ohio, the
Panic of 1907 drove the Fifth National Bank into the arms of the Third National
Bank, creating the singularly named Fifth Third Bank of Cincinnati.
But today Fifth
Third and other regional banks across the nation are being shaken to the core
by a 21st century financial crisis. For many of them, things are going from
bad to worse.
and other loans that the banks made in good times are souring so fast that
many of the lenders are scrambling to prop themselves up. If the pain worsens
and many analysts say it will some of these banks, like Fifth
Thirds predecessors, may eventually seek out suitors, most likely large
For now, however,
no one seems to want the regional banks. Stock market investors are deserting
them en masse. On Wednesday, Fifth Thirds share price plunged 27 percent
to $9.26, its lowest level in more than a decade, after the bank said it would
cut its dividend and seek to raise $2 billion. Other financial stocks, particularly
regional banks shares, also tumbled. The Standard & Poors
500 Regional Banks Index sank 6.8 percent.
is trying to figure out where the bottom is, said Jennifer Thompson,
a regional bank analyst for Portales Partners in New York. Every time
a bank reports another capital raise or reports that things are worse than
they anticipated, there is another round of selling.
was just one more bad day in what has been a horrible year for small and midsize
banks. Their descent in the stock market has been remorseless, reflecting
the economic pain in their own backyards. Weakening housing and construction
markets in regions like the Midwest, Southeast and Southwest have hit lenders
in those areas hard.
For the banks
shareholders, the numbers tell a sad story: Wednesdays decline brought
the loss for the S.& P. bank index to 39.3 percent so far this
year. Fifth Thirds odd name almost seems like a bad joke. Fifth Third
has lost two-thirds of its value this year. Shares of two other banks based
in Ohio, the National City Corporation, of Cleveland, and Huntington Bancshares,
of Columbus, have suffered similar declines.
in the Southeast are hurting, too. The Regions Financial Corporation, the
biggest bank in Alabama, has lost half its value. Standard & Poors
predicted this week that Regions would cut its dividend to conserve its capital
in the face of rising losses on real estate loans. The share price of SunTrust
Banks, which operates across the Southeast, has fallen almost 41 percent.
Small and midsize
lenders are in far less danger than they were during the 1980s and early 1990s,
when about 1,600 federally insured institutions failed during a savings and
loan crisis. But the breadth and depth of the current troubles have caught
bank executives by surprise. Federal regulators are particularly concerned
about the exposure of smaller banks to the commercial real estate market,
which has softened in some parts of the country.
worry is that raising money will become increasingly costly for banks that
need capital. In a report issued this week, analysts at Goldman Sachs said
banks might need as much as $65 billion on top of the $120 billion they have
But so far the
vast majority of investors who bought into financial companies in the hope
that the industry was out of the woods have lost, and lost big. As a result,
many investors are reluctant to sink more money into regional banks, fearing
their investments will be diluted if the banks sell even more stock. While
many regional banks are trading far below their book values at $4.83
on Wednesday, National City fetched just a fifth of its book value per share
many people are simply afraid to buy.
in this death spiral of dilution, said David Ellison, the chief investment
officer of FBR Funds, a mutual fund company based in Arlington, Va. Its
this toxic math.
The need for
new financing highlights the trouble many banks are having in selling assets
like mortgages and home equity loans. They are trying to offload these assets
to reduce amount of capital they are required to hold.
But more than
anything, the problems confronting regional banks underscore the extent to
which the housing crisis has spread throughout the country. In the Southeast,
Regions and SunTrust are reeling from loosely underwritten mortgages now that
real estate values are plummeting in the region.
In the West,
Washington Mutual, the nations largest savings and loan, is being hurt
by loans that it made to borrowers with shaky credit. Fremont General, the
parent of a big subprime lender and a bank in California, filed for bankruptcy
protection on Wednesday. Customers accounts, insured by the Federal
Deposit Insurance Corporation, are safe.
A handful of
tiny banks have failed in small towns in Arkansas, Minnesota and Missouri.
Rust Belt banks like National City and Fifth Third, in the meantime, have
been stung by losses not only on their home turf but also in Florida, where
they expanded in recent years. Initially, the push into Florida helped the
banks increase growth rates as their hometown economies worsened. Now, these
lenders are challenged on two fronts.
tried to assign innings to the credit crisis only a few months ago, are now
resigned to participating in an extra-inning game. Several analysts now think
that industry losses will not peak until next year.
gone from shock and awe to blocking and tackling, Mr. Ellison said.
June 30 for Windows XP. But it's happening
earlier. From Computerworld, "While Microsoft has set June 30 as
the general end of availability for Windows XP, Dell will stop preinstalling
most versions of the seven-year-old operating system today." Since XP works
well and Vista doesn't, this is your last chance to get a new, fast PC with
Windows XP installed, along with the correct drivers. If you're jack of Microsoft's
continued idiocy (and continued unwillingness to listen), you should definitely
consider an Apple Mac. The BIG key to using a Mac is an external mouse with
two buttons and a scrollwheel -- like a Microsoft mouse. There's an irony for
you -- Microsoft makes the mouse. Apple makes the PC.
prices are at their peak. This neat chart from Forbes
shows real oil prices and oil prices adjusted for inflation.
to get their attention.
George opened the back door to go turn off the light but saw that
there were people in the shed stealing things.
He phoned the
police, who asked "Is someone in your house?" and he said "no".
Then they said that all patrols were busy, and that he should simply lock his
door and an officer would be along when available. George said, "Okay,"
hung up, counted to 30, and phoned the police again.
Hello, I just
called you a few seconds ago because there were people stealing things from
my shed. Well, you don't have to worry about them now because I've just shot
Then he hung up.
Within five minutes three police cars, an Armed Response Unit, and an ambulance
showed up at the Phillips' residence and caught the burglars red-handed.
One of the Policemen
said to George: "I thought you said that you'd shot them!"
George said, "I
thought you said nobody was available!"
This column is about my personal search for the perfect
investment. I don't give investment advice. For that you have to be registered
with regulatory authorities, which I am not. I am a reporter and an investor.
I make my daily column -- Monday through Friday -- freely available for three
reasons: Writing is good for sorting things out in my brain. Second, the column
is research for a book I'm writing called "In Search of the Perfect
Investment." Third, I encourage my readers to send me their ideas,
concerns and experiences. That way we can all learn together. My email address
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