Harry Newton's In Search of The Perfect Investment
Technology Investor. Harry Newton
AM EST, Tuesday, April 21, 2009. No
question, earnings for the first quarter are awful. There was hope that everything
was written down in 2008 and it would only be up from the very low base. Hence,
the March rally. See below for "Awfully Familiar."
Meantime, yesterday the Dow fell a whopping 3.56%. Porter Stansberry
of Stansberry & Associates,
investment research, writes (my bolding):
on you. You still haven't watched the
episode of South Park. Drop everything and laugh (or cry) yourself silly.
If you're having trouble watching it, turn off your browser's blocking of popups.
rally comes to an end... Will Macerich crack $20?... What Bank of America's
numbers leave out...
+ The rally
in stocks since early March included a bunch of garbage. I have a spreadsheet
of about 400 companies with more than $100 million in market capitalization
that are overleveraged, unable to refinance, and unable to meet their debt-service
payments from earnings. They're like lit matches. It's only a matter of
time until they burn out.
me write about many of these stocks over the past six months General
Growth, Macerich, MGM, etc. But since March, nearly all of these stocks
have posted huge gains. Many subscribers, I'm sure, thought that meant my
analysis was wrong. Nope. The stock market is a fickle beast... and it's
never easy to make money on any trade even when all of the facts
and the circumstances are lined up in your favor.
happened with shorting these overleveraged companies is that too many
people put too much money on the short side. When a position gets that
unbalanced, it's sure to "snap back." In fact, over the last six
weeks, companies with the most debt and the lowest returns on assets
turned in their best six-week performances since 1938. Says Bloomberg:
"The 130 companies in the S&P 500 and Europe's Dow Jones Stoxx
600 Index with debt-to-equity ratios above 50 percent and a return on assets
of less than zero... rose an average of 82 percent from March 9 through
So the worst
companies' stocks did about four times better than average during
this rally. Meanwhile, nothing improved with the fundamentals of these businesses,
most of which remain deeply troubled. How do you explain the worst stocks
doing so much better than average? A short squeeze. The speculators
holding these heavily shorted stocks were forced to cover. Reports coming
from momentum hedge funds suggest their first-quarter losses were significant.
+ Let's look
at one situation in particular Macerich, the mall owner whose competitor,
General Growth Properties, recently filed for bankruptcy. Macerich owes
$6.7 billion in debt mostly in the form of mortgages on its malls.
It acquired most of its portfolio in 2002-2006, when real estate was extremely
expensive relative to rents. (Macerich spent $2.3 billion for the mall owner
Wilmorite Properties in late 2004; it bought another mall owner, Westcor,
for $1.5 billion in 2002.)
But now mall
vacancies are soaring. According to mall research firm Reis, retail tenants
vacated 8.7 million square feet of space in the first quarter of this year,
on top of the 8.6 million square feet vacated in all of 2008. Mall vacancy
rates are now nearly 10% a record increase from last year. Given
the current market, Macerich won't be able to sell property for anything
like the prices it paid. Assuming it could get 50 cents on the dollar, its
asset base isn't worth the $6.3 billion it claims on its balance sheet.
It's probably worth more like $3.1 billion. And that means it can't sell
enough property to pay down its debts.
+ And that's
not the worst part. The real problem is Macerich can't afford the interest
on its debts. The analysis is simple: Macerich takes in rents. It pays for
its overhead, its interest, and the upkeep in its buildings. It brought
in $537 million in rent during 2008. It spent $16.6 million on overhead
and $277 million on upkeep. That left $243 million for interest. But interest
expense was $281 million.
+ My bet
is the great garbage rally of 2009 is finished. While I expect high-quality
companies with good businesses to continue to do well, I don't expect companies
like Macerich or any of the other overleveraged companies to make it out
of this recession. They're going bankrupt. It's only a matter of time.
+ Bank of
America today announced earnings of $4.25 billion for the first quarter
more than it made in all of 2008. Mmmn... Where did the money come
billion in net income came from the sale of China Construction Bank (CCB)
shares. And $2.2 billion came from marking up Merrill's book of mortgages.
If you subtract these one-time gains and special accounting adjustments,
Bank of America actually lost $1.3 billion.
+ It has
always seemed strange to me that public investors put up with all of the
accounting nonsense that goes on in public companies. I'd never own a stock
whose CEO couldn't tell me in plain English whether or not the company had
made or lost money. I mean, Warren Buffett, who controls an enormous holding
company and some of the world's largest and most complex insurance companies,
somehow manages to explain what's happening each year using plain English
and remarkably few numbers - all of which are simple and intuitive.
Why can't everyone else?
what Bank of America (and the government) don't want you to know: Credit
quality deteriorated across all of its businesses and loan portfolios. Nonperforming
assets increased to $25.7 billion from $18.2 billion last quarter and $7.8
billion year over year. To protect itself from future losses, the bank increased
its provision for credit losses to $13.4 billion from $8.5 billion,
including a $6.4 billion net addition for loan and lease losses.
Familiar. From a site called "Financial
Armageddon -- Insights on debt, derivatives, government guarantees,
the retirement system and the coming economic unraveling."
days, lots of people seem to be reading from the same script:
Says Worst of British Recession Over" (Reuters)
Premier Says Economy Better than Expected" (Associated
Ruler Says the Worst Is Over" (Financial Times)
Officials Suggest Worst of Recession Is Over" (Reuters)
Employers See Signs Worst Over in Crisis" (Reuters)
Over? Just Maybe" (Associated Press)
Is Over; India to Be on Recovery Path in 2-3 Quarters'" (Business
Hopes the Worst Is Over" (The National)
those words sound awfully familiar...ah, yes, now I remember:
CEO Says Worst Is Over, Yet Troubles Ahead" (Reuters,
April 16, 2008)
Stearns Says Worst Is Over After Writedown" (CNBC, November
Chief Says Worst of Crisis Is Over" (Evening Standard,
May 7, 2008)
Mason's Miller Sees Recovery for Stocks; 'Worst Is Behind Us,'
Famed Fund Manager Tells Beleaguered Shareholders" (MarketWatch,
April 23, 2008)
the Worst Over for Detroit?" (SmartMoney, July 18, 2005)
Exuberance. Human emotions cause booms and busts. This
is a review of a new book called ANIMAL SPIRITS:
How Human Psychology Drives the Economy, and Why It Matters
for Global Capitalism by George A. Akerlof and Robert J. Shiller. The
review appeared in Sunday's New York Times Book Review.
Look around you, George A. Akerlof and Robert J. Shiller say. The second
coming of the Great Depression is, like the original, a direct result of
animal spirits. If only we had factored those turbulent emotions into economic
theory, we might not be repeating the earlier tragedy.
Nobel laureate, and Shiller, a good bet to become one, are prominent mainstream
economists. They dont deviate easily from orthodox theory, with its
allegiance to the proposition that people are essentially rational, well
informed and unemotional in the numerous transactions that shape the economy.
But in Animal Spirits, they have deviated and they have
done so just as mainstream theory self-destructs.
nothing rational, well informed or unemotional about the behavior that
has all but collapsed the economy. That leaves most of Americas economists
without a believable framework for explaining how we got into this mess.
Akerlof and Shiller are the first to try to rework economic theory for our
times. The effort itself makes their book a milestone.
a similar service in the 1930s mainly by making the point that market
economies could suffer long periods of high unemployment and low output
unless government stepped in to supply the necessary demand. Barack Obamas
$787 billion stimulus program reflects his insight.
aspect of Keyness thinking did not fare well. He also introduced the
world to animal spirits, coining that phrase to describe a range
of emotions, human impulses, enthusiasms and misperceptions that drive economies
and ultimately unwind them. The economists who interpreted Keynes
rooted out almost all of the animal spirits the noneconomic
motives and irrational behaviors that lay at the heart of his explanation
for the Great Depression, Akerlof and Shiller declare.
this wrong, the authors attempt to restore animal spirits to economic theory.
They do this by drawing on the greater understanding of human psychology
that exists today, and which Akerlof and Shiller, along with other economists,
have incorporated into the relatively new field of behavioral economics.
behavioral economics has focused mainly on a variety of disparate traits
that chip away at the assumption of rationality embedded in mainstream theory.
A young person, for example, fails to join a 401(k) plan, even one subsidized
by his employer, although if he were rational and fully informed, he
would certainly sign up.
and Shiller do is to highlight this sort of finding, packaging it with numerous
other psychological insights into a half-dozen broad maxims that permanently
alter the concept of rational behavior. And their book takes their case
not just to economists, but also to the general reader. It is short (176
pages of text) and easy enough for laymen to understand (most of the time).
they challenge the reigning free-market ideology of the past 30 years or
so, from the rise of Margaret Thatcher and Ronald Reagan to the abrupt arrival
of the present crisis late last year. That ideology held that markets should
operate free of government because they were rational. But if animal spirits
influence behavior, then government must play a broad, disciplinary role,
and do so permanently.
Shiller spent five years writing Animal Spirits and honing that
conviction. They are concerned that once we enter a revival, pressure will
inevitably build just as it did in the late 1970s, more than a generation
after the Great Depression to give the markets free rein again. Akerlof
and Shiller intend their book as an obstacle to that ever happening.
system of safeguards developed from the experience of the Great Depression
has been eroded, they write. It is therefore necessary for us
to renew our understanding of how capitalist economies in which people
have not only rational economic motives but also all kinds of animal spirits
Both men are
old hands at prodding their fellow economists into recognizing exceptions
to mainstream theory. Akerlof, a professor at the University of California,
Berkeley, shared a Nobel Prize in 2001 for his work on asymmetric
information, which means that some parties to a transaction know more
about the deal than others, like the used-car salesman who knows more about
the shortcomings of the vehicle he is trying to sell than the customer he
is pitching. Lemon laws, protecting consumers, grew out of such findings.
Akerlof has long believed that in most market situations a government role
can improve the outcome. Animal Spirits brings that view to
a high boil.
Yale professor, originated the phrase irrational exuberance
before Alan Greenspan made it famous, and in his research he has documented
the rise and fall of home prices going back decades, to demonstrate that
the latest surge was far and away the greatest in American history. The
bubble will burst with very unpleasant results, Shiller warned, well before
that actually happened.
What are these
animal spirits that drive the American economy? Confidence is one. Far from
dispassionately weighing and analyzing all the options, people act on the
confidence, or overconfidence, that a home they are about to buy will be
worth more a year later. Confidence drove up stock prices in the 1920s
and again in this decade, far more than corporate balance sheets and pure
reason would justify, and now lack of confidence, spreading like a contagious
disease, is exacerbating the sell-off.
shows up as an animal spirit, influencing thousands of decisions in ways
that part company with standard theory. Out of a sense of fairness, for
example, bosses often pay their employees more than the market demands.
Considerations of fairness are a major motivator in many economic
decisions, Akerlof and Shiller write, and are related to our
sense of confidence and our ability to work effectively together.
too, is an animal spirit. This includes the propensity to produce not just
what people really need but what they think they need, like the mortgage-backed
securities, a modern form of snake oil, the authors declare.
In their list
of animal spirits, the two economists pay special attention to the tendency
of people to think in terms of narratives or stories. High confidence
tends to be associated with inspirational stories, stories about new business
initiatives, tales of how others are getting rich, the authors write.
On the other hand, stories about the Great Depression shape our narrative
of what is happening now, and our behavior.
So what is
to be done? Animal spirits are human emotions; they cant be turned
off. Unchecked, they drive the economy into misbegotten booms and disastrous
busts. Tempered by government, on the other hand, they are a great source
of entrepreneurial energy, safely channeled into a healthy capitalism. Keynes
came to that conclusion, and Akerlof and Shiller, in Animal Spirits,
push hard in the same direction prodding their colleagues to follow
their lead in revamping economic theory to deal with a market system that,
quite irrationally, failed to govern itself.
drugs get into the colleges: My God. Another
drug epidemic. The latest New Yorker has a totally fascinating piece
called "Brain Gain." It begins.
You can read the
entire fascinating piece on the New
Yorker's web site.
A young man
Ill call Alex recently graduated from Harvard. As a history major,
Alex wrote about a dozen papers a semester. He also ran a student organization,
for which he often worked more than forty hours a week; when he wasnt
on the job, he had classes. Weeknights were devoted to all the schoolwork
that he couldnt finish during the day, and weekend nights were spent
drinking with friends and going to dance parties. Trite as it sounds,
he told me, it seemed important to maybe appreciate my own youth.
Since, in essence, this life was impossible, Alex began taking Adderall
to make it possible.
a stimulant composed of mixed amphetamine salts, is commonly prescribed
for children and adults who have been given a diagnosis of attention-deficit
hyperactivity disorder. But in recent years Adderall and Ritalin, another
stimulant, have been adopted as cognitive enhancers: drugs that high-functioning,
overcommitted people take to become higher-functioning and more overcommitted.
(Such use is off label, meaning that it does not have the approval
of either the drugs manufacturer or the Food and Drug Administration.)
College campuses have become laboratories for experimentation with neuroenhancement,
and Alex was an ingenious experimenter. ..
to be, and not to be an entrepreneur. As
I wrote yesterday, "Startups are our ecnomy's growth engine. Business
schools are running business plan competitions. " One lady reader
said she was going to encourage her local business school to run a contest.
you're close to your local business school, please encourage them also.
Dog. I sat next to a woman with a dog on her lap. I asked
how she got it on the plane. She said she had a medical certificate to "prove"
she needed the dog with her 24/7. Our conversation reminded me of this wonderful
were out for a Saturday stroll. One had a Doberman and the other, a Chihuahua.
As they walked down the street, the one with the Doberman said to her friend,
'Let's go over to that bar for a drink.'
The lady with
the Chihuahua said, 'We can't go in there. We've got dogs with us.'
The one with
the Doberman said, 'Just watch, and do as I do.'
over to the bar and the one with the Doberman put on a pair of dark glasses
and started to walk in.
The bouncer at the door said, 'Sorry, lady, no pets allowed.'
with the Doberman said, 'You don't understand. This is my guide dog.'
said, 'A Doberman?'
said, 'Yes, they're using them now. They're very good.'
said, 'OK, come on in.'
The lady with
the Chihuahua thought that convincing him that a Chihuahua was a guide dog
may be a bit more difficult, but thought, 'What the heck,' so she put on
her dark glasses and started to walk in.
the bouncer said, 'Sorry, lady, no pets allowed.'
said, 'You don't understand. This is my guide dog.'
said, 'A Chihuahua?'
with the Chihuahua blurted out, 'A Chihuahua! They gave me a f...ing Chihuahua?'
I have no clue how to make money in this market. To my tiny brain,
I continue to worship two idols:
1. Cash is
2. When in
doubt, stay firmly OUT."
I pray I'm learning
something by writing this column. I certainly spend enough time on it.
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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