Tuesday, October 14, 2008

Time to Sober UP

The coordinated rescue plans by the world governments over the weekend will stabilize the banking system and will in all likelihood prevent any additional major failures by financial companies.  However, we are headed into earnings season and it may get ugly.  Pepsi just reported a decline in earnings and is falling over 8 dollars in early trading today.  PepsiCo to cut 3,300 jobs as profit falls 10 pct: Financial News - Yahoo! Finance  Many talking heads were saying buy consumer products companies during the meltdown.  I feel fortunate to having sold my position in PEP recently at over 70.    I am not adverse to buying it back at some point but not today.  The recent earnings report from GE was likewise sobering, and the terms of its deal with Buffett shook me as much as the near collapse of AIG.  This is from my earlier email which bears repeating at this juncture before everyone gets too excited about the recent rally: " GE priced  its  recent stock offering of 12 billion at 22.5 per share, near its ten year low.  http://www.marketwatch.com/News/Story/Story.aspx?guid=%7b4C0CA387-F3B5-4B92-8059-268A0B3FD9F1%7d&siteid=yhoof2

Buffett is not only receiving 10% interest on the 3 billion dollar purchase of preferred stock.  As a sweetener, he also received a warrant which gives him the right to buy 3 billion dollars worth of GE stock at anytime during the next five years at the very depressed price of $22.5.  A warrant gives him the right to that but he has no obligation to do so.  If the price never rose over 22.5, then the warrant would expire worthless for example.  But if GE rose to 35 five years from now, Warren would exercise the warrant, buy 3 billion dollars worth of GE at 22.5 and then turn around and sell it at 35 if he wanted bagging without any risk billions in addition to the 300 million in interest on the preferred.  Now this is the largest company in the world agreeing to these terms and six months ago a junk credit would have considered those terms to be onerous and walked away from them.  GE accepted them on the spot as some beggar would ."  

In full disclosure, having sold GE in the mid to high 30s, I started buying the position back before the Buffett deal was announced  at lower prices, but stopped adding to the position after this announcement to reassess the situation with GE.  I have an unrealized  loss on all my recent purchases. 

My point is simple.  Once the euphoria subsides about the radical and innovative plans to save the financial system from collapse, the forces at work on Wall Street will find something else to worry about and they will not have to wait long to find it this earnings season as witnessed by what is happening to Pepsi today.
I may nibble on a REIT preferred issue now yielding 34%. 

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