Stocks are surging. Investors are happy. Making money is easy again. Oh, happy day! Mr. Market is ecstatic... almost manic, you might say.
Even beleaguered Ford Motors has found it easy to "make" money once again. It reported a $2.3 billion second-quarter profit, even though it also reported burning through a billion dollars in cash. To legally report such an extraordinary result, all Ford had to do was say restructuring a debt was the equivalent of making a few billion dollars by selling cars.
A corporate debt restructuring is like when you tell the bank you're broke and can't pay your mortgage. If it's feeling generous, it'll let you pay less. Ford's bank told it to pay less, and it counted the difference as earnings… legally. That's what modern accounting practice gets you. It's a wonder anyone believes anything reported by a public company anymore.
(Good thing Uncle Sam doesn't think it's income when you pay off your Visa with your MasterCard. Maybe Mr. Obama will get wise and use this gimmick to tax you more. Everyone says Obama is so brilliant and creative, but he hasn't even caught up with the accountants.)
It may count as net income to accountants, but I bet you can't pay dividends or build new car plants out of debt restructuring. I bet it's real different from actually selling cars. And I bet, too, Ford didn't really make any profit at all last quarter. It's all an accounting game, and Ford is still bleeding badly. One report I saw this morning said Ford lost $2.8 billion in the month of June alone.
Still, Mr. Market choked down Ford's news like a shot of cheap vodka: momentary discomfort followed by a euphoric rush. Ford was up 10% in active trading this morning.
Maybe Ford deserves a lot of respect for not taking a government bailout. And maybe it deserves respect for being cunning enough to let its customers get bailed out instead. Last night, as our brains softened and our hearts hardened just a little bit more in front of the TV, a local Ford dealer advertised a Ford Focus on sale for $17,000. A rebate, dealer incentive, and "$4,500 in government assistance" brought the price tag to just under $10,000.
Voila. Ford is bailed out without a bailout. There's nothing accounting legerdemain and Uncle Sam can't accomplish if they decide to collude for the benefit of their komrades in Korporate Amerika.
Signs of a top in China: Public opinion research company Selzer & Co recently conducted a survey of investors. They think there's risk in Europe and the U.S. But 70% of them are bullish on China.
Almost everybody believes in the government's power. Omri Beer, an options trader at securities firm Nomura Holdings, told Bloomberg, "It's easy to be bullish" on China because "the Chinese economy is run by the government, managed by the government, helped by the government."
China is as much of a bubble as you'd ever want to see. China reminds me of the bumper sticker that became popular in Silicon Valley after the Internet bubble blew up. I can't remember it exactly, but it said something like, "Just one more bubble..."
Warren Buffett is finally starting to sell Berkshire Hathaway's 20% stake in Moody's Corp. Moody's is the ratings agency that helped create the real estate bubble by prostituting itself, assigning its highest investment-grade rating to baskets of low-quality mortgage securities called collateralized debt obligations, or CDOs. Moody's did it for years, and I don't recall hearing from Buffett about it. Then the housing bubble turned around, damaging its once-sterling reputation as a source of information on the creditworthiness of corporate borrowers.
After topping $70 a couple years ago, Moody's stock hit $15 last November, recovering to about $25 lately. With Moody's almost two-thirds off its all-time high, Buffett has finally decided to throw in the towel.
Hedge-fund manager David Einhorn says he's selling Moody's short. I don't blame him. Most of the ratings agencies are a scam, operating with huge conflicts of interest.
Moody's, Fitch, and Standard & Poor's all get paid by the firms whose securities they rate. Egan-Jones Ratings, the one we use around here, gets paid by the investors who use the service for their own research. I bet the typical ratings agency in the U.S. is going to have its business model called into question and possibly even dramatically altered by law. If ratings agencies were in software, aluminum, oil, auctioneering, or any other business, the Justice Department would have stuck its nose in and sued them out of existence by now.
Once upon a time, Moody's was part of Dun & Bradstreet (DNB). So was IMS Health (RX). All three companies have negative shareholder equity, meaning they require very little tangible capital to operate. All three gush free cash flow. Stay away from Moody's, but the other two are good businesses. IMS Health sells dirt cheap, for less than six times free cash flow.
Berkshire Hathaway is also cheap and loaded with value, but I can't help noticing the Sage of Omaha collided headlong with the debt bubble on several fronts. He owned American Express, Wells Fargo, US Bancorp, and M&T Bank, all of which have seen their share prices crushed, and all of which have taken enormous losses (not to mention TARP money). Wells Fargo has no tangible equity left. Buffett also bought Clayton Homes, the manufactured home company... And he bought those two Irish banks that fell 89%.
If Warren Buffett has trouble navigating the credit crisis and is taking huge losses on public companies, maybe the rest of us should be a little careful out there.
Whether he saw it coming or not, Larry Pittman has more business than he can handle as the credit crisis continues to batter the economy and almost everyone in it. Larry is a repo man. As he explained on the National Geographic channel last night, he takes your car back if you can't make the payments. Larry says, "We do a lot of work at night... and it's a fun job."
He arrives in the night with a tow truck. He hooks your car up to it. The hook on the back is called a boom. When Larry Pittman lowers the boom on you, you're done. "Once it's up [on the boom], I got the car. Nothin' you can do."
As it happens, Larry's a nice guy. An out-of-work plumber couldn't afford to get his car out of hock before it was auctioned off by the bank, so Larry gave the poor sod a good deal, just a few hundred dollars, for an old
car on his lot.
Larry says, "I'll help you out – but I am not leaving the vehicle there and if one of my guys ever does it, they're fired." The bank doesn't pay you to leave the car behind. Most of the debtors Larry deals with won't get their cars back. The cars will be sold, and the lender will recover a portion of the original debt, all of it in some cases.
Many consumer-oriented loans have been deemed uncollectible and sold off for pennies on the dollar. In Extreme Value, I've found the one company best poised to benefit from the huge supply of charged-off debt. It buys charged-off debt, mostly credit-card debt, for a few cents on the dollar and collects between 2.5 and 3 times what it paid.
It's a machine for turning dimes into quarters, one of the best businesses I've found in almost 12 years of researching more than 20,000 public companies. It takes a totally different approach to collecting bad debts, one that actually has debtors writing thank you notes. To find out about this and other out-of-the-way companies you've never heard of, click here.
New highs: Hatteras (HTS), AmeriGas Partners (APU), Addax Petroleum (AXC.TO).
Curious subscribers in today's mailbag. Looks like some of you are ready to get out of town. Where ya headed? Let us know here: feedback@stansberryresearch.com.
"Can you get expat JR to disclose the country to which he is returning (7-22 Digest)? I am searching for my next country, would like to consider the country which has made JR so satisfied." – Paid-up subscriber R.G.
"You forgot to ask JR what country he moved to. We need to know that so we can invade it. OK, so we can move there, too." – Paid-up subscriber R. Resnick
Ferris comment: How about it, JR, where's this wonderful country? Lots of your fellow readers want to know.
"Am I the only one that noticed a delicious irony in Mr. Krasny's comments yesterday promoting the good of the group above the needs of the individual? Krasny is Russian for 'Red.' Coincidence?" – Paid-up subscriber R.L.
"Your share the wealth writer, Mitchell Krasny obviously never lived in SE Wisconsin during the 1970s-1980s. Back then, Wisconsin's welfare benefits far exceeded Illinois' benefits. Hence, once Wisconsin finally started cracking down on the obvious welfare cheats, many stories emerged about Illinois residents maintaining a home in Wisconsin under numerous identities, in addition to their Illinois' address and identities. When it's 'free,' some people can never get enough." – Paid-up subscriber A.F.
"As a residential contractor specializing in remodeling for 21 years, a few things have become very apparent in this last downturn. First, our costs for material went down around 25% from the peak in 2007. Then a lot of our big suppliers and competition went out of business. Way too leveraged in new home construction. Our biggest problem has been the banks. We have lost a number of larger jobs because the banks have backed out of the deals or have frozen or eliminated credit lines. Not to mention the reappraisals with no equity left in the houses. Our own business has had 2 of our 3 credit lines taken away in spite of our excellent track record with them. So as a result, clients now have to give us money at the signing of all contracts and no more extended payments. Lastly, I originally thought we were going to be in trouble, but now realize that since people can't move, they will instead renovate their existing properties. And if my company stays in the sweet spot of the market (not too big, not too small), we could very well prosper during this downturn. Albeit with fewer employees and definitely less frills." – Paid-up subscriber R.H.
"I believe the YOY comparisons do a disservice on the flations. Yes, some prices might have down from last yr. (can't think of any off hand), all I know is I paid $11 this past Saturday for a pack of cigs. and a copy of Barron's, where 3 yrs ago it would have been $6. That's like comparing a Footballs team record from the previous yr. where they went 1-15 and improved to 2-14, yes it was an improvement but the records stil s#$%!" – Paid-up subscriber P.L.
Ferris comment: Thanks to the many who responded to our request for your take on the inflation/deflation question.
By far, the overwhelming majority believes we'll have deflation for some period of time, then inflation. Only one reader said deflation. Almost everyone agreed inflation, possibly hyperinflation, was the biggest risk.
That's the consensus viewpoint: Deflation is what's happening now. And because of that, inflation is increasingly the expectation going forward.
I look upon a consensus viewpoint with skepticism. I have to wonder what would surprise the holders of such a viewpoint?
Regards,
Dan Ferris
Medford, Oregon
July 23, 2009