Tuesday, January 19, 2010

Baron's Roundtable/More on Regional Bank Strategy/Cash Inflation/VZ and T: Price War/Sallie Mae

1. Favorable View on Regional Banks in Barrons.com Trader's Column: This column states the bull case for the regional banks possibly repeating a rise from the ashes, similar to the rebound after the S & L crisis in the early 1990s. One point made in this article is that the spread is widening between what they pay depositors and the rates realized on their loans. One of two analysts featured in the article, David Kovacs, recommended four stocks, all of which are in my Category 1 of the Regional Bank Stocks stratagem. Those stocks are MI, RF, SUSQ and HBAN (all currently owned as Lottery Tickets).

My most successful purchase last year of a regional bank stock was the 50 shares of East West Bancorp (EWBC) at $5.7 last April (Buy of 50 EWBC as Lottery Ticket), now selling at over $16 EWBC also received a favorable write up in Barrons over the weekend.

I do not know whether a long term bull market in regional bank stocks will occur in the same way as it did back in the 1990s. I do not know about the timing or the duration of a move. I do know that many of these banks were selling recently at prices prevalent in the early 1990s, losing all of the appreciation gained during the prior bull run starting in the early 1990s and continuing to around 2006-2007 for most of them. Many of them have just issued tons of stock at prices prevalent in 1990 to 1992. And, the share losses incurred during this last banking debacle were deserved, and the reckless lending that led to those losses indicates that nothing was really ever learned by our financial wizards from the past.

Notwithstanding all of that, the banks can enjoy several years of growing profitability due to a gradually improving economy and a favorable interest rate environment. The yield curve is also very helpful to them now. Dividends for many of them will be gradually restored over a period of many years to approximately where there were in 2006 provided there is not another financial catastrophe. And, at some point in the distant future, the dividend yields on a few of my purchases will look very good based on my cost. I do not know now which ones will be boosting their dividends back to pre-2008 levels, which is another reason for the shotgun approach that I am using. I intend to add another 10 to 15 names to the 21 names already purchased to date. I will then wait and see what happens. I will be adding a few new ones this week.

For purposes of illustrating this point about the dividends, I will use Webster Financial (WBS) as an example. In 2007 according to the S & P report, WBS hit a high of $57.79. The dividend paid out that year was $1.17. WBS was one of my first buys in the regional bank strategy with 50 shares bought at $4.58. Buy of 50 WBS: Lottery Ticket A return to $1.17 would give me a yield of 25.54% at a total cost of $4.58. Will that happen? I have no idea whether it will happen or when. If the dividends returns to 2007 levels for WBS, it may take 10 or 20 years, or somewhere in between. But I expect a return to 2007 dividend levels to happen with some of these LTs if I give it ten years or so. And for WBS, a return to a 50 cent annual payout would give me more than a 10% yield. Many of these banks are currently paying out just one cent per quarter, and I would not expect dividend increases in 2010 for any of them currently in my Category 1. I currently expect any recovery to be a slow one.

And in fairness to the regional bankers, they are not as overpaid as their Wall Street brethren, working in the top 38 financial firms, who are scheduled to receive close to 145 billion in bonuses for 2009. WSJ.com Are they worth 145 billion? As a group, they are responsible for more losses than gains in my view, sort of like airlines over time who collectively have a net loss over their entire history. If you tally up how much in wealth has been destroyed by the Masters of Disaster (not their wealth of course, for destroying the wealth of others is one of the most lucrative occupations in America), compared to the wealth created by them for society, the wealth destruction number would be greater, and hence they are worth as a group some sum less than zero, worse than worthless. While some may still disagree with that observation, without factual justification I would add, at least we all can agree that they are perpetually experiencing a serious delusion as to their real worth and competence. Really, was Richard Fuld, the former CEO of Lehman, worth 484 million in compensation over about 7 years time? NYT

The OG is in the process of reading Andrew Sorkin's book, "To Big to Fail", and had reached page 55 before starting to doze off. On that page, according to Sorkin, Buffett despised the lucrative paydays for the Wall Street types that he thought were neither intelligent nor created much of anything of value. And then there are the legions of ethical lapses so common among them, later highlighted at page 57. Why on earth would anyone trust any of them?

The RB just said that the Old Geezer needs to chill out about the Masters of Disaster. It is simply our lot in life to pay for their greed & incompetence. Fortunately for the absurdly compensated financial whizzes and doofuses extraordinaire, Uncle Sam does not come knocking on everyone's door, saying hey Headknocker, the Masters of Disaster have blown up the financial system-again, you need to chip in a 30 grand to clean it up the mess, and help the Masters start earning a few million again, as quickly as possible. That plea might not be too effective, but that is precisely what has happened in a more indirect fashion. Headknocker would slam that door on Uncle pretty fast, fortunately the HK does not live in a Thugocracy like Iran.

Still, who out there feels good about earning nothing on their savings in money market and saving accounts in order to lend a helping hand to the bankers, and to enable the Wall Street wunderkind to pay themselves 145 billion in bonuses? Even the NYT has figured out that retirees and other responsible persons are in effect paying for it. How Retirees Saved the Banks - NYTimes.com

2. Tidbits from Barron's Roundtable Discussion: Twenty percent of the income in the U.S. consists of government's transfer payments, and that number is growing.

Most of the job creation has been in small businesses. And the Democrats health care proposals will add significant surcharges to those businesses which has hindered hiring, according to Scott Black. I saw evidence supporting that thesis in the recent survey by the National Association of Independent Businesses and other surveys. www.nfib.com .pdf (usnews.com) BusinessWeek Black also compared Obama's stimulus program unfavorably to the one launched by FDR after his election in 1932. Trade associations claim that 2 trillion needs to be spent on roads and bridges and the Democrats allocated only 40 billion of the 787 billion "stimulus" bill to infrastructure and "very little" of those funds have been spent over the past year. This criticism of Obama's stimulus plan is warranted in my view except on the timing issue. It takes more time now to start a large infrastructure project.

Faber may be wrong in predicting that interest payments on the U.S. national debt will consume 50% of tax revenues in 10 years, but only in degree rather than the direction. Zulauf argues that when the number rises to over 30%, you are done, meaning the country defaults or the currency collapses. The interest payments on the national debt will increase when the Federal Reserve starts to raise rates.

1/4th of homeowners have negative equity and another 1/4 th have less than 10% equity, according to Zulauf.

Black expects further stock market gains based in part on liquidity. The S & P 500 has about a 10.1 trillion dollar value at today's prices, and there is around 3.3 trillion sitting in money market funds earning practically nothing now. The Vanguard Prime retail money market fund has about 93 billion in assets with a 7 day yield of .05%. Barron's Online - V Fidelity Cash Reserves has over 129 billion earning .08%. Barron's Online - Weekly Mutual Funds - F Really, it might as well be zero. How long would it take to double my money at those rates, maybe a 1000+years. NYT (the low rates on savings is just one of the many ways that responsible Americans are paying for the reckless, frequently idiotic and greedy actions of the Masters of Disaster who kept their ill-gotten booty like all good pirates) Other panelist pointed out that the market is also been driven up by the stimulus spending of governments around the world, and printing presses running all out.

Cohen's forecast for the S & P 500 earnings is $75 to $76 in 2009 and $90 next year. If I slapped a 15 multiple on that $90, I would get a S & P 500 at 1350. I would view that number to be an optimistic target for the S & P 500 average within the next year.

Hickey said that gold could rise to $1600 by year end. Zulauf thinks that gold could have a quantum leap at some point and will perform better than stocks over the next five years. I have a hard time seeing gold at $1600 anytime soon, unless there is a collapse in the dollar. I would agree with Zulauf's observation that the Euro is overvalued versus the dollar, and I do own a double short ETF for the Euro. I am not sure how Zulauf's prediction about the dollar gaining strength squares with his gold forecast.

3. Cash Inflation: Brian Westbury says that cash inflation, which excludes the hypothetical estimate of what a homeowner would charge himself in rent, rose .2% in December and up 3.5% in 2009. .ftportfolios.com/Commentary The cash inflation rate is also accelerating, up 4.5% over the last 3 months at an annualized rate. Real average hourly earnings declined 1.3% year to year. The rent portion of CPI makes up about 40% of the total: Bloomberg.com

4. Verizon and AT & T: AT & T and Verizon common stocks have not enjoyed much of a rally off the March 2009 lows, even with their 6+% dividends and their dividend increases in the later part of 2009. VZ closed last Friday at $30.58 and T at 25.79. On March 6, 2009, VZ closed at $27.28. I own their bonds and the common stock of AT & T. If I had to put a rational reason for the lagging performance of the common stock, it would be the impact of competition on their wireless plan rates. The latest salvo in a pricing war was fired by Verizon last week when it reduced the cost of its unlimited voice plan. Reuters A longer term problem for VZ and T is discussed in this recent Forbes' article which focuses on the adverse impact 4G technology will have on the pricing of voice plans.

5. Sallie Mae and Obama's New Tax: Sallie Mae (SLM) fell almost 5% last Friday on concerns that the Democrat's new tax on large financial firms would hit SLM particularly hard, even though it had nothing to do with the financial crisis and did not receive any aid. WSJ.com It is too early to tell whether or not the tax will be applied in such an unfair manner, but the situation will have to be monitored. I currently own 150 shares of OSM and will sell all of the shares when and if it looks likely that SLM will be hit along with other financial institutions who did not receive bailouts and had no role in creating the crisis. The timing of this tax coincided with the unexpected tight Senate race in Massachusetts and Obama's decline in the popularity.

Many of the large financial institutions are just regaining their footing. It was not that long ago that many were arguing that several of them needed to be taken over by the FDIC. The new tax will probably mean that shareholders will be slow to receive any dividend increases, and customers will find loans even more onerous or hard to get.

The pain of the tax will not be felt by those who are scheduled to receive the 150 billion in bonuses soon. Without a doubt, those financial institutions are tone death in awarding those kind of pay packages so soon after having to be bailed out due to their own recklessness and greed. The quick return to outrageous pay packages for the Wall Street wizards is occurring at a time when the nation is experiencing high unemployment and underemployment, and the average family income declined last year adjusted for inflation. {The U.S. has fewer private sector jobs now than we did a decade ago: WSJ There has been zero job creation since December 1999. Middle class families made less in 2008 than in 1999 adjusted for inflation.washingtonpost.com} And the irony of Obama's new financial tax is that it will have no impact at all on these pay packages, and will be just another example of making the wrong people pay for the greed and recklessness of others.

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