Wealth International, Limited

Finance Digest for Week of October 22, 2007

Note:  This week’s Offshore News Digest may be found here.


The Federal Reserve’s September 18 rate cut brought a feeling of optimism to the air – a sense that the market’s fits and starts are over and everything is going to be okay. I hold a contrary view. Bubbles, by their very nature, burst. I vividly remember the last time the stock market came undone. While my value sensitivities had kept me away from the high-priced dot-com party, its dramatic and painful end affected far more than just tech stocks. Over an agonizing 2 1/2 years, $7 trillion in shareholder value evaporated.

Because the subprime debacle has dominated the headlines, the prevailing view is that all the bad news is out and the peril is largely behind us. As I said in my last column, I think the subprime fears were overblown. Still, the mortgage mess is only one piece of the problem. We have yet to face the darker issues surrounding private equity and hedge funds. Jeremy Grantham, head of the well-respected investment firm GMO, projected in his last quarterly letter that in just five years, half of today’s hedge funds and a significant number of private equity firms will tank. Wall Street already is littered with corpses of Amaranth Advisors, Sowood Capital and two Bear Stearns hedge funds.

Private equity funds bear some responsibility for the enormous leverage that our entire financial system has taken on. The supersize deals they make involve scary debt loads. The multiples are rich, as much as 16 times operating income (EBITDA). Not long ago a fair price for a solid business was 10-12 times. The higher prices are worrisome given the large fraction of the purchase price that is borrowed. And until very recently many lenders have been blasé about excess leverage. With the huge fees to be earned, debt providers were only too pleased to oblige. Now they are not so happy with $350 billion in buyout debt sitting on their books and no takers.

In my view we are only in the early innings of a significant market correction led by the finance sector. When financial firms struggle, they have a big effect on the broader economy, from consumer loans to initial offerings to mergers and acquisitions. A real recovery is going to take a while.

So I keep in mind Sir John Templeton’s wisdom, “For those properly prepared in advance, a bear market in stocks is not a calamity but an opportunity.” Right now I am buying even more of Main Street’s high-quality companies that are not tied to Wall Street’s wealth – such as Newell Rubbermaid (NWL, 29), Clorox (CLX, 61), and J.M. Smucker (SJM, 54). They can provide important insulation during slowing economic growth.

Link here.


In the interium, bubble excesses have gone to still more dangerous extremes.

Global central bankers may have succeeded at least temporarily in their aggressive liquidity operations. This liquidity, however, has avoided post-bubble risky mortgages and mortgage-related derivatives. Today, a strong case can be made that monetary disorder was only exacerbated. To be sure, the unfolding spectacular bursting of the mortgage finance bubble runs unabated. Meanwhile, myriad other global bubble excesses have gone to only more dangerous extremes – certainly including global equities markets.

It was a week of worrying developments. The degree of mortgage credit deterioration was confirmed by the dreadfully rapid earnings deterioration being reported by the banking industry. And the housing data out of California suggests an unfolding disaster. If market sentiment does not recover soon – something hard to envision – we will be witnessing a housing bust of historic proportions. “Home sales in Southern California plummeted in September to a two-decade low,” reported the LA Times. “We’re on our way down and still picking up speed,” said Christopher Thornberg, a Los Angeles-based economist. Things were not much better up north. Dataquick puts Northern California sales down 40% from a year ago. For the entire state, September sales were down 27% from a terrible August to the lowest sales in 20 years. The lack of jumbo mortgage availability received widespread blame. Credit conditions will likely tighten further.

It is an ongoing theme that I do not expect credit insurance (in its various contemporary forms) to survive the unfolding downside of the credit cycle. Current tumult in the mortgage derivative arena is cause for concern. The rapid deterioration in the mortgage insurance business is quite alarming. “MGIC Investment Corp., the largest U.S. mortgage insurer, posted its first quarterly loss in 16 years,” reported Bloomberg, “and said it won’t be profitable in 2008 as foreclosures increase from record levels. The net loss of $372.5 million ... was the worst quarter ... since it went public in 1991 ... The company is forecasting declines in home values of 20% in the Phoenix area, 18% in Las Vegas, 13% in Orlando, Florida, and 7% in Los Angeles over the next two years.”

There are certainly grounds today to suggest that the unfolding California housing bust will test the viability of mortgage insurance industry. MGIC, in particular, noted increased credit losses in higher-end homes and in the Golden State. But I do not believe anyone has modeled in the type of housing crisis that is unfolding. This thinly capitalized industry in on the hook for $trillions of insurance exposure. And as the debt market begins to question the ongoing solvency of these insurers, a major additional uncertainty will plague the vulnerable “private-label” ABS and MBS marketplaces. Moreover, the thinly-capitalized GSEs have huge exposure to the fragile mortgage insurance industry. The next stage of the mortgage meltdown is at hand.

I do not have time to properly highlight what was a very poor week of bank earnings. Almost across the board, credit deterioration was much worse than had been expected. It will get much worse. “Profit at the five biggest U.S. banks totaled $18.7 billion for the quarter, the lowest in almost four years, as demand for securities linked to mortgages and leveraged loans dried up ... Home foreclosures have forced banks to write down the value of mortgages and home equity loans,” reported Bloomberg. “Wells Fargo & Co., Regions Financial Corp., and KeyCorp, three of the biggest U.S. banks, posted lower-than-estimated third-quarter profit and said rising loan losses may hurt future earnings.”

It is worth noting that Citigroup expanded its balance sheet by $133 billion during Q3, a 24% annualized rate. Amazingly, Citi’s assets have ballooned $608 billion during the past four quarters, or almost 35%. Despite the poor and deteriorating outlook, Bank of America’s assets increased at an 11.6% pace during the quarter, exceeded by Wachovia’s 19.0%. Big Five (Citi, B of A, JPMorgan, Wachovia and Wells Fargo) total assets expanded $243 billion during Q3 – a 15.1% growth rate. Big Five assets have inflated 20% over the past year.

It was one of the great myths of this credit cycle that the banking system was much healthier and more stable because of the capacity of contemporary finance to dis-intermediate bank credit risk to “the marketplace”. It is now becoming clearer to market participants that the major banks in particular have huge exposures to myriad risks, market and otherwise, that have been distributed to various vehicles, structures and market operators. The problem today is that the preponderance of players active in this non-bank risk intermediation have been thinly capitalized and often leveraged. Too many were aggressively writing flood insurance in a drought, without the wherewithal to deal with an eventual flood. There is now a severe one heading our way whether the Fed cuts rates or not.

It is both fascinating and alarming to witness the wild inflation in the banking system balance sheet in the midst of a rapidly faltering credit cycle. Not only are the banks forced now to “re-intermediate” risk they had previously “distributed”, they also have no alternative than to take up the slack from an increasingly impaired Wall Street risk intermediation mechanism. The market is beginning to appreciate the great risks associated with such a proposition.

It is today’s inescapable credit bubble dilemma that enormous quantities of new credit must be forthcoming – which entails intermediating credits that are at this stage highly risky. They are of high risk because the credit system is proceeding toward a major dislocation – one with major ramifications for the entire economic system. Inevitably, the flow of finance will be altered profoundly. Many individuals, market operators, business enterprises, and (local, state, and federal) governments are today poorly positioned and will be forced to adjust. This will amount to a momentous financial and economic adjustment, and we should not expect that it will proceed smoothly.

In the meantime, there is today apparently no alternative than massive banking system inflation. In just 12 weeks, bank credit has ballooned $360 billion. And as much as the unfolding mortgage debacle will impair the banking system, I fear it has already irreparably damaged “Wall Street finance”. If upper-end jumbo, alt-A and home equity loans are the looming disaster that I suspect (significantly larger in scope than subprime), the viability of the CDO and mortgage derivatives markets may soon be in doubt. The terrible earnings news from the mortgage insurers plays right into this debacle. If confidence falters in the GSEs ... and the melt-up in Treasury prices only exacerbates MBS instability, while the (not so) quiet run on the dollar further reduces the appeal of U.S. mortgage paper to our foreign creditors ...

Stock market complacency over the past weeks was astounding. But if the markets head directly south from here, market confidence and the Fed’s capabilities will be tested simultaneously. Lower rates are definitely not the answer. The respite is over.

Link here (scroll down).
Subprime is, like, so over! – link.


The housing market or inflation. Choose.

Like a scene out of a Hollywood blockbuster, picture Fed chairman Ben Bernanke hovered over two giant red buttons. With sweat pouring from his brow and a giant clock ticking away, our hero must make a decision with the fate of the entire world holding in the balance. He could save the housing market while giving way to rising inflation, or try to curb inflation, letting the housing market plummet to its untimely death. What will he do?

Certain areas of the credit market are frozen, and until they thaw, the global stock markets are rediscovering their volatility. The U.S. economy is addicted to credit just as it is addicted to foreign oil. This could be the equivalent of a temporary oil market embargo.

Fortunately for U.S. debtors, help is on the way. The Federal Reserve will swoop in for the rescue by doing what it always does – promote inflation. Like a shotgun blast, the Fed will inject the type of liquidity we saw after the September 11 terrorist attacks. This time, however, this blast will have a hard time making its way down the chain of lending to the credit-starved subprime mortgage market.

The Fed’s announcement of this type of monetary policy will be cautious. Global investors have a tendency to react quickly to minuscule changes made by the Fed, but one message will ring loud and clear: Deflation is unacceptable and the Fed will fight it with every tool in its kit. It is saying that the U.S. dollar is expendable.

The stocks of high-quality companies exposed to energy and metals eventually will settle down, but I think we have still seen only the beginning of what will eventually be huge damage to the securitization market. The securitization phenomenon has allowed all debt to be packaged and sold off to investors around the world. It fueled the blowoff top in the housing market. It enabled homebuyers to purchase homes that they clearly could not afford.

Thanks to securitization, misunderstandings of the risks involved with collateralized debt obligations (CDOs), and incompetent ratings agencies, those involved in the mortgage-backed security (MBS) markets were largely ignorant of the risk they were taking. Just like the “dumb money” day traders powering the peak of the NASDAQ bubble, the complex mortgage funding setup allowed way too many bad loans to be stuffed into the MBS channel. This just inflamed the peak of the housing market.

New savings is becoming rare, and this means that all liquidity creation is borrowed. It is borrowed against rising asset prices, and once asset prices stop increasing, the liquidity evaporates. Once this happens, selling without buyers begins, and this already hit the CDO market. Housing inventories keep building and foreclosures keep increasing, but we have not seen the type of panic you may expect. People are not yet overreacting to the point at which asking prices begin to be slashed by 30-40%. This type of panic could develop and may happen by the middle of 2008, coinciding with the peak in ARM resets.

Recently, Bernanke considered the subprime crisis to be contained. He appears to be incorrect in the face of today’s interconnected world. Fear in one market usually spills over into several others. Bernanke also believes that a global savings glut will keep the long-term interest rates low forever, but he seems to be missing the point. What is perceived as a savings glut is turning out to be borrowed liquidity – liquidity that can disappear into thin air.

Wall Street’s pleas for serious Fed action grow louder with each hedge fund that goes under. In August, the Fed rolled out an emergency 50 basis point cut to its discount rate. This change will stay put until the Fed decides that market liquidity has improved. This action set off a short-covering stock market rally, but I think it is hardly enough inflation to cover all the problems that will crop up from the massive volumes of ARM resets in the pipeline. Countrywide et al have had their impending short-term funding crunch eased, but they will not be prompted to start writing a lot of mortgages again. Plentiful easy mortgages are exactly what the housing market needs to avoid another big price decline, but that is not going to happen. At this point, foreign creditors like the Chinese play a far more important role than the Fed does when it comes to housing finance.

Bernanke is stuck between a rock and a hard place. I expect that he will promote as much creation of money and credit as he can get away with and hope that the public’s fear of inflation does not return to the extremes it reached in the 1970s. The world is safe today, but for how long?

Link here.


Financials are worst performing subsector of the S&P 500 this year.

The big banks that reported earnings last week made clear that the days of fat profits are over. Now the questions are, how long will the lean times last, and what will they do to banks’ earnings and stock prices in the future.

After last week’s earnings announcements, financial services stocks took a dive. The Russell 1000 Financial Services index lost 7.2% of its value for the week. Because financial companies are such a large part of the economy, their declines helped bring down the overall market as well. Financials currently make up almost 20% of the S&P 500 stock index. The sector’s 8.7% drop in value so far this year makes it the worst performer in the index.

Some investors seem to think that banks’ current share prices reflect whatever grim earnings news remains ahead for the sector. But anyone who thinks that we have hit bottom in the increasingly scary lending world is paying little mind to the remarkably low levels of reserves that the big banks have set aside for loan losses. Indeed, loss provisions as a percentage of total loans held for investment plummeted to a historic low in Q2 2007. Now that the credit cycle has turned from boom to bust, those falling reserves must be replenished. That will have to come from earnings.

That process of reserve-bolstering started in earnest last week. As the major banks reported their Q3 results, all moved to raise their reserves significantly. But Zach Gast, an analyst at the RiskMetrics Group, thinks these increases are just the beginning of a series that will put pressure on bank earnings for several years, not just a few quarters. Indeed, under a moderate-case scenario that Mr. Gast recently outlined in an interview, bank earnings could fall as much as 18% over the next three years as a result of rising loss provisions. Deteriorating credit quality, combined with historically low reserve levels, could force the banks to bolster their loan loss provisions by $30-85 billion over the same time frame, he said. “The nonperforming loan numbers are going up so quickly,” Mr. Gast said. “We do expect those loan loss provisions to be higher for quite some time.”

Even though the loan loss reserves that banks disclosed last week looked relatively large, they shrank considerably when compared with the nonperforming assets saddling the banks’ balance sheets. For example, while Bank of America’s $2 billion loss provision was up 74%, year over year, nonperforming loans more than doubled in the period, to $3.37 billion from $1.66 billion. Reserves as a percent of total loans fell to 1.21% from 1.33% in the same period last year.

Part of the problem for banks is a result of an almost two-decade drop in loan loss reserves. Now everybody has to play a serious game of catch-up. Over the past 17 years, Mr. Gast said loss reserves as a percent of total loans held for investment at banks have plummeted, falling to 1.23% in Q2 2007 from 2.46% in 1990.

Bankers are optimists by nature, and a rosy outlook can lead to under-reserving. But there is another factor helping to drive down reserves, as Mr. Gast points out – a 1998 S.E.C. examination of how SunTrust Bank engineered its reserves. Regulators contended that SunTrust had improperly over-reserved for loan losses, creating a sort of rainy-day fund that it could use to manage its earnings when necessary. SunTrust agreed to restate three years of financial reports and reverse $100 million in reserves.

Bankers then became reluctant, Mr. Gast said, to reserve too heavily in anticipation of a deteriorating credit cycle. Now that a credit bust looms, banks have far fewer reserves on their balance sheets than they might have had in previous cycles.

While troubles in residential mortgage loans have been evident for months, Mr. Gast notes that the credit cycle has not yet begun to turn down among other sectors – like commercial and industrial loans and consumer debt, which includes credit card obligations and student loans. Residential real estate accounts for 59% of loans at U.S. banks, he said, while commercial loans total 18%. Consumer debt accounts for 15% of total loans.

“In residential mortgages, people are clearly aware of the problem,” Mr. Gast said. “Construction loans they are becoming more aware of, but there are entire segments of loans that haven’t turned yet. If your take on the economy is bearish, then there is probably still more out there.”

U.S. banks have enjoyed such a rich long run of profitability that they have a sizable chunk of capital to handle loan losses. Nevertheless, the hits to earnings caused by future increases to reserves are likely to be neither pretty nor brief.

Link here.


Now he fesses up.

An unusually high degree of risk taking across asset classes made recent financial market turmoil all but inevitable, said former Federal Reserve Chairman Alan Greenspan. “The financial crisis that erupted on August 9 was an accident waiting to happen,” Greenspan said in a speech on the sidelines of IMF and World Bank meetings. “Credit spreads across all global asset classes had become suppressed to clearly unsustainable levels. Something had to give. If the crisis had not been triggered by a mispricing of securitized U.S. subprime mortgages, it would eventually have erupted in some other sector or market.”

Defaults on subprime loans, made to borrowers with poor credit records, have spiked in recent months, setting off a chain reaction that has tightened credit conditions around the globe. That, in turn, has raised worries about the U.S. economy that have sent the value of the dollar tumbling. The weaker dollar is helping to rein in a large U.S. trade deficit by lending support to exporters, who are finding their goods more competitive in overseas markets.

Greenspan, who stepped down from the Fed early last year, said apprehension about the size of the shortfall in the U.S. current account, the broadest trade measure, was not groundless. However, he said would not view the unwinding of the deficit with “undue alarm,” unless protectionist trade pressures and budgetary red ink continued to grow. “If the pernicious drift toward fiscal instability is not arrested and is compounded by a protectionist reversal of globalization, the current account adjustment could be quite painful for the United States and our trading partners,” he warned.

The current account gap swelled to more than 6% of U.S. GDP last year, leaving the U.S. reliant on foreign capital to finance that deficit. “At some point, foreign investors will balk at increasing their share of dollar denominated assets in the portfolios they hold,” he said, adding the recent dollar decline is an indication that America may be nearing that point.

Some economists fear the growing role of state-controlled investment funds may increase fears in the U.S. about the potential takeover of strategic U.S. assets. These sovereign wealth funds are thought to have some $2.5 trillion at their disposal, with much of that under the control of trade surplus countries, such as China, Russia and the Middle East oil exporters.

Link here.


Commodities and natural resource stocks have not yet caught on with Generation X or Y or beyond.

Despite precious metals prices being on fire, attendance was light at the Hard Assets Investment Conference held September 10 and 11 at Mandalay Bay. The usual graying and balding suspects were present, but, clearly, investing in commodities and natural resource mining stocks has not caught on with Generation X or Y or beyond.

Anyone sporting a Mohawk haircut or flashing lip and eyebrow rings were attending the nearby Game Stop convention. And there seemed to be almost as many Game Stoppers outside satisfying their nicotine habit at any one time than the entire cast of gold bugs hearing about drill holes and mineralization zones.

But while the yellow metal and yellowcake are shining brightly, the brightest stars in resource investing decided to skip the Vegas conference this year. Past years have featured keynote speakers like Jim Grant. This year, an unknown Dr. David Ranson spoke about how the price of gold is a better measure of inflation than government statistics. Crowd favorites Doug Casey and Rick Rule were nowhere to be found. Without them, many interesting Canadian junior miners, prospect generators and drillers did not exhibit at the show because there would be no one speaking that would recommend their stocks.

Consequently, the only speaker that somewhat filled the trimmed-down speaker’s hall was uranium bull James Dines. Dines has been a bull on uranium stocks for years and he still believes they are going higher. All of them. Dines, flanked as always by leggy young blondes, told the crowd that China and India will construct thousands of nuclear power plants and those plants will require yellowcake to operate. “The uranium shortage will last another five or 10 years,” according to Dines.

The gold-investment world’s version of the band Heart, The Aden sisters, spoke about gold’s wonderful prospects on day two of the conference. Mary Anne Aden led off by saying that the gold price is on its way to $2,000 per ounce because of the perfect economic storm of increased government debt and massive global liquidity. Sister Pam said that gold’s 1980 price of $850 per ounce would be an inflation adjusted $2,204 today, and with the world’s reserve currency under pressure, the gold price is going higher.

Gold legend Rob McEwen’s company U.S. Gold was an exhibitor at the conference and assistant to the chairman, Ian Ball, told the couple dozen who attended his presentation about the company’s prospects in Nevada. U.S. Gold has a massive land position in the Cortez Trend in northern Nevada between mining heavyweights Barrick and Newmont. Nevada ranks #1 in the world for million-ounce gold mine discoveries, Ball explained, and his company believes the Cortez Trend will be as prolific as the nearby Carlin Trend, where 180 million ounces have been discovered and 60 million ounces have already been mined.

As is custom, the conference concluded with the Bulls & Bears debate. Newsletter writers Eric Coffin, James Dines, Ian McAvity and Paul van Eeden worked at having a difference of opinion. Technical analyst McAvity believes the stock market will soon plummet 20 to 25%, and maybe crater as much as 40% in the next few months, “taking everything with it.” McAvity made the same prediction a year ago.

All of the panelists are bullish on gold long term, with Dines seeing the price soaring to $3,000 to $5,000 per ounce and silver going to $100 per ounce. Unlike McAvity, Dines does not see a sell-off coming for the stock market and thinks stocks will rally. Paul van Eeden believes the credit market crack-up will slow economic growth and the base-metal stocks will feel the pain. Eric Coffin took the other side of that argument, believing that the growth in China and India is real.

All should remember that resource stock investing is not for the faint of heart. As James Dines quipped, “If you want to double your money with no risk, fold your cash in half, and put it back in your pocket.” But if investment-conference attendance is any indication, the price of gold and other commodities has a long way to go. Up.

Link here.


Fabulous earnings and a goodwill-rich balance sheet are a good place to start.

Petrohawk Energy has been a winner for investors this year, its shares up 46% on a combination of rising energy prices and rapid-fire acquisitions. Revenue climbed to $443 million in the first half, compared with $588 million for all of 2006.

On that basis Petrohawk looks like a solid growth company. But an innovative statistical analysis of financial statements flashes a yellow light on this Houston outfit. The pattern in its numbers is too much like that exhibited by companies later shown to have padded their earnings. Investors in Petrohawk have a higher-than-average risk of suffering a big disappointment in the next few years, in the form of a writedown or an earnings restatement.

This new way of looking at financial statements comes from University of California, Berkeley accounting professor Patricia Dechow and three colleagues. Their algorithm collects data on such things as sales, receivables and employee count, and spits out a number that Dechow calls the F-score. F is for fudging. A high score is not proof that a company is doing anything wrong – Petrohawk says its accounting follows the rules – but rather just a good reason to worry.

At our request, Dechow’s colleague and coauthor, Weili Ge of the University of Washington, found the U.S.-listed companies with market capitalizations above $1 billion that get the highest fudge scores. The list includes lots of fast-growing midcaps like Petrohawk, which uses a Pollyannaish method of accounting for the costs of acquiring oil and gas assets. It also has volatile technology firms such as Abraxis Bioscience and Tessera Technologies, as well as blue chips like Procter & Gamble and Google (see box).

Dechow’s test is especially sensitive to companies that add lots of assets from year to year, like P&G’s $57 billion acquisition of Gillette. It also snares companies whose assets are increasing faster than employees, such as BlackRock (BLK), where assets increased 10-fold after it took on Merrill Lynch’s investment management business last year. That sounds like efficiency, and in the money management business it is. But when Enron piled up hard assets like power plants faster than employees to manage them, it spelled disaster.

Ms. Dechow’s research does not purport to show that any of these companies are manipulating earnings. It just suggests that they deserve a closer look. One key signal is the simultaneous occurrence of rising cash sales and a cash margin rate that is falling. “Cash sales” means revenue minus the increase in accounts receivable. For “cash margin” you subtract from cash sales the sum of the cost of goods sold and the increase in inventory, and divide the result by cash sales. A confluence of these two trends could mean the company is extending credit to customers to make sales and building excess inventory. Enron displayed this combination in 2000.

The F-formula also penalizes companies with fast-rising stock prices that trade at high multiples of book value, perhaps because managers of such companies feel pressed to continue their winning streak. It penalizes them for goodwill that rises faster than cash revenue.

Skechers USA shares doubled last year as kids made a fad of its Airators and Cali Gear shoes. But Skechers also earned an F-score of 1.8 – roughly the same as Enron would have got in 2000, the year before it collapsed – because the cash margin fell as sales rose. Sure enough, Skechers shares fell 40% in August after the company reported lower earnings on higher-than-expected costs. Other companies with high F-scores because of diverging cash sales and margins include fast-growing underwear manufacturer Gildan Activewear. Shares are up more than 20% this year on soaring sales, but margins could come under pressure sooner or later. Gildan says its F-score is misleading because of a merger that skewed cash margins.

Petrohawk earns a closer look because of an old red flag in the oilfield – full-cost accounting. Under this system, which the SEC tried, and failed, to ban in the early 1980s, companies lump all the expenses of finding and buying reserves into one big account and amortize it over time, instead of charging costs against earnings as they are incurred. That lets fast-growing companies like Petrohawk put off recognizing the effects of bad acquisitions and dry holes because recent moneylosing projects can be mixed in with earlier ones. Petrohawk also has $938 million in goodwill, or the excess of what it paid for reserves and what it thinks they are worth. Goodwill is essentially a bet that management can wring more oil and gas out of the ground than previous owners could, and management decides when that bet has not paid off. With oil companies, RiskMetric’s Hilt Hannink says, “There is no real disclosure of why or when goodwill is written down.”

Thermo Fisher Scientific (TMO) generated a score of 5 – five times the average risk of manipulation – because of the $6.4 billion in goodwill it picked up when Fisher and Thermo merged in 2006. Thermo Fisher has another $7.5 billion in non-goodwill intangibles, including $4.7 billion attributed to “customer relationships”, $1 billion in “product technology” and $696 million in trademarks. Intangibles and goodwill are vulnerable to a sudden writedown if management decides the merger was not such a good idea. Such accounts are also vulnerable to manipulation, as managers push an earnings hit into the future or execute a “kitchen sink” writedown, wiping out asset values in one swoop to make future earnings and return on capital look better. When companies have lots of such hard-to-value assets, “their accounting is more fuzzy,” Ms. Dechow says. “Their earnings are not going to be as stable.”

Ms. Dechow got her Ph.D. in accounting and finance at the University of Rochester in 1993. But her education in fuzzy accounting really began back in Kalgoorlie, Australia, where her father, a geologist, taught her how to tell the difference between a promising mining stock and a scam. “He could tell just by looking at who the directors were,” she recalls. “Where the assets are underground, a lot of games can go on.”

Link here.


Income investors hate volatility and uncertainty. But volatility and uncertainty provide the best opportunities to get higher long-term yields. The financial turmoil we have been seeing is based on a reawakening to default risk across the board. And it has been brought on by the real losses coming out of the housing bust. Those losses could magnify into a recession, something a few prescient souls like fellow Forbes columnist Gary Shilling have been warning about for some time.

So far the worst damage to market prices has been in the banking and financial sectors, particularly real estate investment trusts. While the Federal Reserve’s September cut in short-term rates has calmed the markets for the moment, the bloodshed is far from over.

The summer’s broad-ranging selloff was motivated by uncertainty. Who will get hit--and how hard – from mortgage-related holdings? We will not know until the year-end financial reporting period is over, if then. A second worry festers about a corporate debt default wave, an event last seen in 2001 and now long overdue. Such a wave is generally accompanied by a recession.

Income investors, who look forward instead of back, will find opportunities in this chaos. While more bad news may come in the high-yield arena, well-rated debt will benefit. This debt is a safe haven and interest rates decline when the economy goes south. That will help the prices of high-rated issues. Meanwhile, inflation concerns are small, if only because there are greater things to worry about.

Now is the time to review your holdings with a view toward benefiting from the eventual recovery. Raise some cash by selective selling of your junk holdings, and other income securities that stood up well during the August horror. Selling those sturdy survivors of August may seem dumb. But keep in mind that such securities are less likely to rise in a recovery. There is a good probability that the Fed’s action marks the nadir of the crisis. So act now.

For now I am looking at securities that suffered in a sector selloff that had nothing to do with mortgages or went down for emotional causes. Equity REITs, which own things like apartments, are one possibility. As they are associated with real estate, after all, and real estate is paid for by mortgages, the market likely will take until at least next year to warm up to them again. They are cheap now.

Expect good performance sooner from closed-end funds, many of which took a drubbing in the summer market downturn. Too few people understand them. They were easy to ditch when the going got tough. Closed-end funds are like mutual funds, but they trade on the stock exchange and do not redeem their shares. If you want to buy or sell them, you do so like any other stock. Their portfolios of securities are generally not scrutinized by analysts. They have a limited audience of buyers since, unlike open-end funds, they lack management companies actively marketing new shares.

Closed-end funds are attractive now. Many have good yields, and their prices are at a wide enough discount to their net asset value (meaning the underlying value of their holdings) to be interesting. They can use up to 33% leverage, which will benefit them now that the yield curve is steepening. I have culled a few with double-digit (or close) yields and discounts from NAV. The universe of closed-ends is large and varied, and my choices demonstrate the variety.

Do not try to find the bottom of the market. Instead, start buying now and spread your purchases over several months. Web sites you can visit for detailed information on all closed-end funds are QuantumOnline.com and ETFConnect.com, as well as mine, ETFInvestorNewsletter.com.

Link here.


The subprime collapse did not bother the Bush administration, until Wall Street bankers started whimpering.

The subprime mess has been spreading like toxic mold since the housing market peaked last year. So why did it take until now for the government to decide it should do something about it? I have a theory.

When individual borrowers began to suffer, Federal Reserve Chairman Ben Bernanke and Treasury Secretary Henry Paulson did not seem overly concerned. The market would clear out the problem through the foreclosure process. Loans would get written off, properties would change hands and be resold. When upstart subprime mortgage lenders ran into trouble, Bernanke and Paulson shrugged again. The market would clear out the problem through the bankruptcy process. Subprime companies like New Century Financial filed for Chapter 11, others liquidated or restructured, and loans made to the lenders were written down. Meanwhile, Paulson and Bernanke assured us that the subprime mess was contained.

But as the summer turned to fall, and the next several shoes dropped, their attitude changed. And that is because the next group of unfortunates to fall victim to subprime woes were massive banks. In recent years, banks in New York, London, and other financial capitals set up off-balance-sheet funding vehicles called SIVs, or conduits. The entities borrow money at low interest rates for short periods, say 30 to 90 days, and use the funds to buy longer-term debt that pays higher interest rates. To stay in business, the conduits must continually roll over the short-term debt. But as they searched for higher yields, some conduits stuffed themselves with subprime-mortgage-backed securities. And when lenders became alarmed at the declining value of those holdings, they were reluctant to roll over the debt. Banks thus faced a choice. They could either raise cash by dumping the already-depressed subprime junk onto the market, or bring the conduits onto their balance sheets and assure short-term lenders they would get paid back.

Large U.S. banks were reluctant to put the conduits on their balance sheets – especially Citigroup, which manages about $100 billion in such conduits. So Paulson sprung into action. In September, the Treasury Department summoned bankers to suggest that they voluntarily work out some sort of arrangement among gentlemen and gentlewomen to prevent disorder in this market. (It was the same type of voluntary arrangement the New York Federal Reserve suggested Wall Street banks make during the 1998 Long Term Capital Management debacle.) The conversations bore fruit. Last week, several banks announced the creation of a new mega-conduit that would buy some of the damaged goods from existing conduits. Voila! A federally suggested short-term bailout.

Paulson delivered a speech in which he suggested that the mortgage industry take a cue from the big Wall Street banks and find an alternative to foreclosure, like readjusting rates or accepting lower payments. The industry should “get together in a coordinated effort to identify struggling borrowers early, connect them to a mortgage counselor, and find a sustainable mortgage solution.”

This and other recommendations are all good and commonsensical. But it makes you wonder where he has been for the past year. These measures are a little like distributing condoms at a clinic for teenage moms who are six months pregnant – good prophylactic ideas that arrived a half-year too late. Last year was a boom year for foreclosures, up 42% from 2005. And foreclosures have spiked sharply throughout 2007, up more than 55% in the first half of 2007; September 2007 foreclosures nearly doubled from September 2006. Homeownership rates, a success story routinely highlighted by the Bush administration, have fallen for the last three quarters.

Of course, it is doubtful Paulson knows many subprime borrowers or subprime lenders. On the other hand, the former head of Goldman Sachs is a member in good standing of the club of Wall Street CEOs. When the subprime meltdown began to disturb the CEOs’ sleep, he responded with alacrity. Even as he had harsh words for the entire mortgage complex – from brokers to credit-rating agencies – and recommended far-reaching reforms, Paulson was careful to single out one class of actors for protection. He noted that the issue has been raised as to “whether greater liability should be imposed on securitizers and investors.” In other words, should the Wall Street firms that peddled mortgage-backed securities that turned out to be worthless a few months later be subject to greater accountability through the legal system? His answer? “In my view, this is not the answer to the problem.”

Link here.


HINSDALE, Illinois – If you want to sell a mansion in this upscale Chicago suburb, this is not the best time. “People are afraid, and that is driving the mood of the market right now,” Bryan Bomba, principal of local realty the Bryan Bomba Group, said while touring a house here. “You can still sell, but it takes hard work and a lot more time.”

Welcome to Hinsdale, an affluent village in demand from doctors, lawyers and executives for its proximity to the city’s heart – 30 minutes by train in rush hour – with good schools, polite wealthy neighbors and leafy quiet streets. Across the U.S. even in wealthy areas like this – Hinsdale’s median asking price for a home is $1.5 million – residential property sales have been slowed to a crawl by the subprime mortgage crisis.

The house Bomba was showing is a 6,000-square-foot (540-square-meter) property. Far larger than average homes and often mass-produced for large gated or semi-private neighborhoods, houses like this are called “McMansions” – a satirical term for excess that references popular fast food giant McDonald’s. McMansions have come to be associated with the swollen wealth of the lucky winners of the last decade, dating to the Internet boom of the 1990s through wealthy taxpayers made even richer by U.S. tax cuts under President George W. Bush.

Bomba said the asking price for the 5-bedroom, 3-story house is $1.85 million. It has been on the market for more than two months and, granite kitchen counter tops and red oak floors notwithstanding, may be available for some time more. Hinsdale houses are now taking 6 to 9 months to sell, compared with 4-6 months during 2004-05. Bomba said his own business has slowed even as a client base he has built over 18 years has cushioned the blow.

Real-estate businesses are hurting. “In more than 30 years I’ve never seen so much inventory,” said Julie Deutsch of Coldwell Banker Residential Brokerage serving the North Shore, Chicago’s premium property market. Deutsch had sales of around $63 million in 2006 and said, “I will consider myself lucky if I see $30 million in 2007.”

Hanna said one way to view the U.S. property market was to picture it as “a pyramid, where subprime forms the base. ... Now people at the bottom can’t sell to move up a level and that also hurts people at the top of the pyramid.” Lenders are more reluctant to lend to people at the bottom of the market. But wealthier Americans with less-than-perfect credit – some, for instance, with a hefty mortgage or two already – are finding themselves in the same boat.

“Many of the people at the high end are CEO’s and entrepreneurs who are used to getting what they want,” said Bill McNamee, president of Pinnacle Home Mortgage, a mortgage broker focused on Chicago area high-end homes. “They don’t like being told ‘no,’ but some will be forced to get used to it.”

Nervousness after the summer’s stock market volatility and fear of a recession have also played a role. “High-end owners are staying put and adding on to their houses because they are afraid of what’s happening in the economy,” said Sandy Heinlein of Baird & Warner Real Estate in Inverness, a wealthy Chicago suburb. Many owners are unwilling to risk buying a home for fear they may not be able to sell their existing one, she said.

Pat Turley, owner of Koenig & Strey GMAC Real Estate in the Chicago suburb of Glen Ellyn, said unrealistic expectations from both buyers and sellers have added to the slowdown. “Some sellers have yet to accept they won’t get the price they could have a year or two ago,” Turley said. “And while it is a buyer’s market, there is a limit to how low buyers can expect sellers to go.”

Link here.
Foreclosures north of Boston nearly triple – link.


I could almost hear the sigh of relief from the unfortunate investors who have held their uranium mining shares through thick and thin. The sigh comes as a result of the weekly spot price increasing by $3 per pound, bringing the current price up to $78 per pound.

The most frustrating part for long-term uranium bulls, myself included, is that the fundamentals never changed. There is still a tremendous growth in demand for U3O8, but the market just got a little too hot. The investors who did not recognize the overheating got swooped up in the downfall and had their tremendous profits slashed away and, in many cases, eventually turn negative.

Other people saw the speculative bubble forming and the hedge funds start investing in the uranium market. Once the hedge funds enter any market, you can expect volatility to be extreme, and that is exactly what ensued. Thus far in 2007, we saw the spot price of U3O8 increase by approximately 100% and then in a matter of weeks, give back almost 50% of those gains. With the decline in spot price came the crack in the uranium stock bubble. It seemed that with each weekly decline in the spot price, we saw a 10% decline across the board in uranium stocks ... Ouch! This is all old news now. The question at hand is, have we found a bottom for yellowcake?

Calling tops and bottoms can be a very dangerous game to play in this field of work, and that is exactly what I am not going to do. Instead, I will do you one better. We have to weigh all of the possible scenarios and also discuss the reasons for the sell-off in the first place.

Actually, there are just two main reasons. The first reason is very simple. There were several uranium producers that were keeping their uranium off the market and waiting for higher prices to sell-off. At the same time, we had many buyers who were attempting to buy secured contracts for the delivery of uranium at a set date and price. Lots of willing buyers and few willing sellers result in higher prices – exactly what we saw. This was fine and dandy until we reached the point at which the producers needed to sell their uranium to pay the bills. All of a sudden, the market was flooded with supply, and the buyers had disappeared. So conversely, the result of too many sellers and not enough buyers is lower prices.

The second reason for the sell-off has to do with the U.S. Department of Energy. Amid the middle of the decline, it came on board with 200 metric tons of uranium hexafluoride (UF6). The Department of Energy ended up receiving some $43.1 million for its UF6, but the end result was just an increase in the glut of supply on the market. It sounds like a minor version of the Gordon Brown gold sales at market bottom.

I cannot promise that all of the distortion in price is behind us and that the extreme volatility that we saw will just disappear, but it seems that the price is once again below market equilibrium. Does that mean we have hit a bottom? Not by any means. What we have to do at this point is look at the long-term price of uranium and judge what the downside risk is versus the upside potential.

Well, it is in my strong opinion that we have downside risk in the neighborhood of $55-60 per pound and upside potential of approximately $150 per pound. Again, it looks as if we might be at or near a point of reentry in the market for uranium.

Given this, we have to figure out where to put those funds, and how to avoid as much of the volatility as possible. Much like a very minor version of the dot-com bubble, any company with “uranium” in its name saw its stock shoot straight to the moon. This happened regardless of if the company had any proven and probable reserves or not. Although the stock prices of these junior miners have come down to much more reasonable levels, I would like to avoid them. We can still find some great penny plays without taking the risk of a junior in a volatile market.

I am looking for is a reasonably valued producer of uranium. There are a couple of picks along these lines, but one company stands out to me. That company is Uranium One (UUU: TSX). It is also traded on the Pink Sheets under the ticker SXRZF.

This company is a producer of uranium, as well as gold, and that it has been aggressively buying up other uranium companies in order to increase its asset base. On July 31, Energy Metals approved a takeover bid by Uranium One. This is one of the largest acquisitions to take place in the uranium market. Energy Metals was also a producer of uranium, so this gave Uranium One more immediate production and a higher cash flow. Uranium One has also picked up some juniors in a successful effort to increase its proven and probable resource base.

At current prices, Uranium One is very attractive. It also has a lot of analyst coverage that will show up in its stock price going forward. This is definitely a company worth looking at. As I said, predicting a bottom is very difficult, but the risk-reward scenario at this point in the uranium market is once again very positive for investors.

Link here.

Is nuclear power’s comeback for real?

We all know that $30-a-barrel oil is not coming back. The search for a low-emission, nonfossil-fuel source of energy has been a bit like American Idol: One after another, fresh-faced alternative-energy-rock-star wannabes are eliminated. Wind and solar are nice and clean, but the sun does not work 24/7 and the wind is fickle. Ethanol offers politicians the irresistible combination of grow-your-own energy independence and the potential to make Iowa primary voters rich. But because it is corrosive and soluble in water, it is hard to transport ethanol over long distances through pipelines. And to raise a crop sufficient to meet our gasoline thirst, we would have to plant the entire continental U.S. with maize, leaving only a small corner of Delaware for bedrooms and a den.

As contestants are eliminated it is worth looking at the geezer in the bunch, nuclear power. Last month, nearly 50 years after the Shippingport Atomic Power Station in Pennsylvania became the first commercial power plant to go online, the New Jersey-based utility NRG filed papers seeking permission to build a nuclear power plant in Texas. This represents the first such new application since 1979, nuclear’s annus horribilis. Two weeks after the debut of the nuclear-disaster flick The China Syndrome, life imitated art, as the Three Mile Island nuclear plant in Pennsylvania suffered a partial meltdown. That effectively forestalled the creation of new nuclear power plants for a generation. The last reactor to come online was the Watts Bar reactor in Tennessee, in May 1996.

So, what has changed? 28 years of safe operation (in the U.S., at least) have helped pave the way for NRG and for a couple of dozen other possible plants in the works. The nation’s 104 commercial nuclear-generating units have been quietly humming along without significant incident. “The Bureau of Labor Statistics will tell you that the nuclear industry is the safest place to work – safer than real estate and Wall Street,” says former New Jersey Gov. Christine Todd Whitman. Through the first half of this year, nukes provided 19.8% of U.S. electricity generation, about the same proportion as they did in 1990.

More important, thanks to developments in the broader environment, many longtime critics are changing their tune. As a co-founder of Greenpeace, Patrick Moore used to call nuclear energy “synonymous with nuclear holocaust.” But he now believes “nuclear is the cleanest, safest and has the smallest footprint” of any major energy alternative source. Another megatrend is working in nuclear’s favor is demographics. In 2006, an estimated 41.3% of the population was under 30. Which is to say that the percentage and number of Americans who remember the accidents at Three Mile Island and Chernobyl decline with every passing year.

However, nuclear power does have some serious problems. It takes a lot of money, and a lot of time, to add new capacity. NRG says that if all goes well, its new nuclear units, which could power 2 million homes, may come online in 2014 and 2015. Investors are not eager to commit billions of dollars to controversial long-term projects that might never get built. The government is trying to help by providing risk insurance and streamlining the approval process.

There is also still the huge problem of where to put the waste. But as Rudy Giuliani suggested recently, if a bunch of European socialists can figure out what to do with the radioactive leftovers, why can’t we? But when it comes to reaching a definitive solution on how to deal with nuclear waste, our vieux allies are stuck in the same quandary as we are. For years, Congress has been debating a proposal to store nuclear waste in Nevada’s Yucca Mountain. In France, where plans to bury waste in rural areas raised similar hackles, the response has been to change the conversation. France has developed a program to store waste temporarily, while researchers figure out what to do with it – hardly an elegant solution. Which explains why nuclear energy, which has been the energy of the future for the last 50 years, may continue to be so.

Link here.


But Wall Street is pricing the company as if it will never invent another drug.

Drugmakers spend $1 billion in research for every drug they get to market. If only Pfizer were doing that well. Since 1998 Pfizer (PFE) has spent $55 billion on research and development and another $180 billion on acquisitions. Yet in that time only nine medicines from its labs have hit the market, and only one – the pain drug Lyrica – has passed $1 billion in annual sales.

At one point Pfizer had three of the world’s ten 10 sellers: Lipitor for cholesterol, Norvasc for blood pressure and Zoloft for depression. But the latter two have lost patent protection, and their sales are vanishing. Lipitor will go off-patent by 2011. In five years Pfizer will have to replace $18 billion in sales, 40% of its total, or lay off a few thousand people.

Pfizer has 47 experimental drugs in the middle stages of testing, more than at anytime in its history, including some very promising treatments for cancer, obesity and Alzheimer’s. Its new antismoking pill, Chantix, is nearing $1 billion in annual sales. The company plans to push a half-dozen drugs into late-stage trials in each of the next three years.

Pfizer’s trail of woe, reflected in a 40% share price decline since 1998, is a result of an affliction known to every problem gambler – the delusion that skill can overcome chance. So desperate was it to replace its megahits, like the $12 billion Lipitor, that it kept piling up its bets on drug candidates without a coldhearted assessment of their odds. Pfizer spent the tenures of two chief executives and billions of dollars on Exubera, the first inhaled insulin. The drug was finally approved a year ago but generated sales of only $4 million last quarter.

Pfizer tried to buy its way out of the drought. Macugen, for macular degeneration, cost Pfizer $300 million to license but brings in no sales. Indiplon, a sleeping pill, was licensed for $200 million, then turned down by the FDA. Pfizer spent $1.3 billion acquiring Esperion Therapeutics, maker of a protein to Roto-Rooter clogged arteries, but now cannot manufacture enough to start a new clinical trial. Vicuron Pharmaceuticals was swallowed in 2005 at a cost of $1.9 billion, for two anti-infectives that were expected to hit the market within months. One is not selling, and the other has yet to be approved. Pfizer spent $1 billion, a record for late-stage trials, to win approval for its Lipitor replacement Torcetrapib. Torcetrapib caused deaths in a big trial. It is a goner.

Many on Wall Street say CEO Jeffrey Kindler’s only option is to do what Pfizer has always done, buy somebody big, like Wyeth or Bristol-Myers Squibb. Pfizer got to be the largest drug company because it acquired Warner-Lambert in a $116 billion stock swap and Pharmacia for $60 billion in stock. That is how it got Lyrica, a drug to treat severe pain, and Lipitor.

But the megamergers of the past are what caused many of Pfizer’s problems. Gigantism compels executives to fund only research products that will become big sellers. But it is no easier to forecast a hit in this business than in Hollywood. After its mergers Pfizer lost scientists either through voluntary departures or, in a real head-scratcher, firings. Nearly all of Vicuron’s antibiotic researchers were shown the door in just six months. Most of the 60 scientists who were the whole reason to buy Esperion are now gone.

Pedro Cuatrecasas, who headed drug research at Warner-Lambert when Lipitor was invented there, warns that pharmaceutical innovation is “in jeopardy” because of megamergers. He kept track of what scientists were doing by walking around and talking to them. That is now impossible.

Pfizer’s best hope for a rebound before 2012 is its pipeline of 14 cancer drugs, which have sprung up from two acquired biotechs, Agouron and Sugen. Charles Baum, who heads cancer development at Pfizer, says his budget is increasing. The already approved Sutent is a modest seller ($500 million in sales) for kidney cancer but could explode if it turns out to work for breast or lung cancer. If Pfizer could license another cholesterol drug to pair with Lipitor, it might be able to save billions in Lipitor sales. The most likely candidate is made by Takeda.

“Investors seem to be pricing Pfizer like it will never invent another drug,” says Michael Krensavage, an analyst at Raymond James in New York. Curing cancer is a big task for a drug giant just coming off a decade-long dry spell. Right now a few surprise hits would be good enough.

Link here.


We have written to you so much about how big the coming U.S. infrastructure boom will be your eyes are probably sore. We have given you the stats to prove how big this is going to be ($1.6 trillion in total expected costs, 90% of highways to be exceeding capacity in less than 13 years, etc.). We have even given you a few small-cap opportunities in this area.

But this infrastructure theme is not going away anytime soon. The American Association of State Highway and Transportation Officials expects the upgrades and repairs to take at least another 20 years as a conservative estimate ... Not to mention the maintenance associated with such projects. So, before I get ahead of myself, let us take a look at a few companies we have discussed so far this year.

Way back in February, Chris Mayer told you about a unique water play, Pioneer Companies (PONR: NASDAQ). This company is the 6th-largest producer of chlor-alkali products in the U.S. Chlor-alkali is important to the process of water treatment. And since the company is the only one located in Southwest U.S. and the water infrastructure is so bad there, Chris expected big things from the company. Well, sure enough, he was right. At the end of the summer, the mega-chlor-alkali producer, Olin Corporation (OLN: NYSE) bought up Pioneer. This buyout gave Pioneer investors a profits windfall to the sum of $35 per share.

I wrote to you in late June about another infrastructure play, Insteel Industries (IIIN: NASDAQ). Insteel produces a special type of support for highway barriers and bridges called engineered structural mesh. And as Christopher Hancock has pointed out, 80+ bridges in the U.S. are in the same shape that the I-35W Bridge in Minnesota was before its unfortunate collapse (not to mention that 30% all the bridges in the U.S. are considered structurally deficient or functionally obsolete). I mentioned that Insteel is in position to take advantage of the inevitable bridge-building boom that will sweep the U.S. in the months and years to come. It still is. There is still an opportunity to make a move on this company.

And lastly, I recently wrote a follow-up on the highway-building theme when I talked last month about Sterling Construction Company (STRL: NASDAQ). Sterling has been smart enough to keep its nose out of residential construction over the past few years during the housing boom. This put the company in position to do what it does best: build roads, highways, bridges, water and wastewater treatment systems and pipe installations. With these focuses, Sterling will soon be looked at as a premier infrastructure provider to the state of Texas.

I am sure we will be covering the U.S. infrastructure theme for some time to come, but today I will talk about something a little different. Canadian infrastructure. As you can probably guess, Canada’s infrastructure problem is not nearly as bad or as costly as the U.S.’s, but with far fewer people and companies, the investment opportunities are just as big. According to Canada’s 2007 National Budget, approximately $1,000 per person will be thrown at their infrastructure problems over the next seven years – $33 billion total.

This is only a start ... According to the federal infrastructure department in Canada, Infrastructure Canada (IC), the current gap in infrastructure funding is between $44 billion and $125 billion – almost what the entire infrastructure of Canada right now is worth according to IC. So Canada needs to match almost everything it has spent in the past on infrastructure. And they want to do all this while adding new trade systems to gain more access to Asian markets.

The budget points out problems such as poor road and highway conditions, weak bridges, inadequate water and wastewater systems, and a growing concern over Canada’s ability to compete for trade with the growing Asian economies. So to fix these issues, Canada is planning to use the allotted $33+ billion to hire private companies to build the new and rebuild the old infrastructures throughout Canada.

As I mentioned, only a few companies exist and are big enough to handle many of these projects. And there is one that I feel will benefit the most – Aecon Group (ARE: TSE). Aecon has been a leader in Canada, especially in the Toronto area, in various businesses, which include infrastructure, concessions, buildings and industrial.

The infrastructure segment of Aecon’s business includes everything mentioned above, like road, highway and airport runway construction and paving; building dams, tunnels and transit systems; as well as utility construction like water and sewer systems, telecommunication networks and even mainline gas projects.

Aecon’s concessions segment takes care of maintenance, management and upgrades that go along with the ongoing operations of certain infrastructure projects. The company’s buildings segment includes projects like commercial office buildings, schools, hospitals and government buildings. And finally, its industrial segment handles everything from industrial pipe manufacturing and platform/assembly construction to electricity-generation facilities that range from nuclear and fossil to hydroelectric.

The company has proven itself throughout Canada by efficiently completing projects like the Bruce Power Used Fuel Dry Storage Facility for spent radioactive materials (from the many nuclear plants in Canada). But, the company is also diving into international projects like the construction and maintenance of a new airport in Quito, Ecuador and a cross-country highway in Israel.

This kind of experience and trust from the Canadian government, not to mention the international community, puts Aecon in a great position in the upcoming infrastructure boom. We will be following this trend and other infrastructure trends worldwide in the months and years to come. Until next time ...

Link here.


Why is Clinton’s Labor secretary defending the preposterous salaries of chief executives?

While nobody was looking, Robert Reich positioned himself to the right of President Bush. Reich was Bill Clinton’s Labor secretary. He was never the left-winger caricatured by the right, but he was more reliably liberal than most of the Clinton Cabinet. Reich is still a liberal, but in his new book, Supercapitalism, he argues that corporate chief executives deserve their stratospheric pay.

The typical CEO of a Fortune 500 company is paid $10.8 million, or 364 times what an average employee makes. By comparison, 40 years ago that CEO would have been paid only 20 to 30 times what an average employee makes. “As citizens,” Reich concedes, “we may feel that inequality on this scale cannot possibly be good for a democracy. ... It creates a new aristocracy whose privileges perpetuate themselves over generations. It breeds cynicism among the rest of us. But the super-rich are not at fault. By and large, the market is generating these outlandish results. And the market is being driven by us as consumers and investors.”

In an op-ed headlined “CEOs Deserve Their Pay” in the Wall Street Journal, Reich wrote that if voters cannot stomach what CEOs get paid, they should raise the top income-tax rate. But if stockholders feel nauseated by CEO pay, they should not protest. They should reconcile themselves to the idea that they are getting their money’s worth. Reich’s larger point is that corporations generate wealth, democracy generates social justice, and when you allow one to meddle in the other, mischief will likely result.

I agree with Reich to the extent that he is warning not to be credulous when corporations voluntarily embrace “social responsibility” or when government gets too interested in helping this or that private industry. But I have long believed that compensation to top corporate officers, far from being a pure expression of market imperatives, was distorted by all sorts of internal bureaucratic imperatives.

Graef Crystal is a longtime expert on executive pay. His Bloomberg column regularly cites examples of top executives whose pay is grotesquely out of whack with the performance of the company they run. Reich concedes that this can happen now and then, but that when it does it is “unlikely to last long” because market pressures will soon force that top executive’s resignation. But in a July column, Crystal reported that Edward Whitacre, who the month before had departed as CEO of AT&T, had managed to underperform the S&P 500 Index “during his entire 17 and a half years of running the company,” yet managed to amass well over $500 million in compensation. How did he get away with it? According to Crystal, the board “swooned over his empire building and rewarded him accordingly.” More recently, Crystal cited an article that suggested paying a CEO with a large stock option sometimes motivates him to take “such great risks that he ends up making decisions that can backfire for shareholders.”

Why should this be so? The article authors’ working hypothesis, Crytal wrote, was that to shareholders, when a risky decision backfires the result is actual monetary losses. To a CEO with a large stock option, when a risky decision backfires the result is “that his options will expire underwater. He won’t lose any real dollars.” If that is true, then even to executives, the stupendous level of compensation must feel like play money.

Stepping back a little further, we might question the very premise that a CEO’s pay increase should be commensurate with the increase in the value of his company’s stock. Between 1980 and 2003, Reich writes in Supercapitalism, as the average value of America’s largest 500 companies rose by a factor of six, adjusted for inflation, average CEO pay in those companies also rose roughly 6-fold. Reich offers this up as evidence that CEO pay makes economic sense.

But CEOs are not puppeteers. As Paul Krugman writes in his new book, The Conscience of a Liberal:

Assessing the productivity of corporate leaders isn’t like measuring how many bricks a worker can lay in an hour. You can’t even reliably evaluate managers by looking at the profitability of the companies they run, because profits depend on a lot of factors outside the chief executive’s control. Moreover, profitability can, for extended periods, be in the eye of the beholder: Enron looked like a fabulously successful company to most of the world; Toll Brothers, the McMansion king, looked like a great success as long as the housing bubble was still inflating. So the question of how much to pay a top executive has a strong element of subjectivity, even fashion, to it. In the fifties and sixties big companies didn’t think it was important to have a famous, charismatic leader: CEOs rarely made the covers of business magazines, and companies tended to promote from within, stressing the virtues of being a team player. By contrast, in the eighties and thereafter CEOs became rock stars – they defined their companies as much as their companies defined them. Are corporate boards wiser now than they were when they chose solid insiders to run companies, or have they just been caught up in the culture of celebrity?

One might wonder the same about Reich.

Link here.


About 10 years ago, a new idea emerged about luxury. Luxury was no longer the exclusive preserve of the very rich. Thanks to rising incomes, greater access to credit, and increased connoisseurship, Everyshopper could consider herself a luxury customer. People might buy their basics at big-box retailers, but they would splurge on selected items that were meaningful to them in boutiques. The theory of trading up, espoused by consultants from Boston Consulting Group, held that luxury businesses should lower their sights and expand their vision of the potential customer base.

But now the credit crunch, poor housing market, and slowing economy may bring a halt to the trading-up trend. Luxury is no longer something that unites Americans, but rather something that separates them. Robert Frank of the Wall Street Journal coined the term Richistan to describe the world that the wealthy inhabit among us today. “Lower Richistan is under increasing financial pressure while Upper Richistan continues to live the good life,” Frank notes. “The consumer economy is no longer about the haves and have-nots: it’s about the haves and have-mores.” We have spoken for years about two Americas shopping, but now it seems there may be three. For when the economy catches a cold, working-class consumers cut back, middle-class consumers trade down from cashmere scarves to cotton – but the truly rich just fly in their private physician for an executive checkup.

Savvy marketers are seeking out the one group of consumers who are truly immune to macroeconomic issues, the ultra-rich. A few weeks after it slashed prices on holiday toys, Wal-Mart launched an “aggressive holiday pricing plan,” with price reductions 20% greater than last year. If Wal-Mart were to hold the line on prices, it would find itself stuck with gads of inventory come December 26. But companies that sell toys to a select few are facing no such pressures. Robert Frank reports that the wait for a new Gulfstream 550 is about three years. Tiffany, whose same-store U.S. sales rose 17% in its most recent quarter, announced plans to expand its retail footprint significantly. It plans to open several small Tiffany Collections stores and as many as five to seven new Tiffany & Co. stores per year.

The Big Three automakers have been scaling back production, and dealers are pushing incentives at customers. But Marty Laliberte, a Ferrari salesman at Wide World of Cars, in Spring Valley, New York, says that a customer, provided he has the means to buy a new Ferrari (which can run from $190,000 to $260,000), should expect to wait three years for a new car. Tesla Motors, the Silicon Valley electric sports car startup, last month outlined its production schedule: 50 cars in the first quarter of next year, and 600 more to follow. And they are pretty much sold out.

In many markets, home-builders are throwing in extras or holding fire sales to get rid of excess inventory. But as New York real estate maven Jonathan Miller notes, the Manhattan market is holding up just fine, especially the higher end. Miller says that in Q3 2007, prices for studio apartments fell from 2006, while prices for 1-bedroom and 2-bedroom apartments rose at slightly above the rate of inflation. However, the average price of a 3-bedroom apartment in Manhattan ($4.4 million) rose 17.9%, while the average price of a 4-bedroom apartment ($8.5 million) rose 16.4%. “The top six percent of the market is still going at a housing boom pace,” Miller notes.

In the trading-up mentality, the key to successful luxury retailing was pricing the product at a high point – but not so high that it pushed aspirational customers away. Now, high-end retailers are sending the message that people who do not come heavy should not come at all.

Some marketers are taking their cue from the mockumentary Spinal Tap. In one priceless moment, Nigel Tufnel (Christopher Guest) describes how the dial on his amplifier goes up to 11, for when he needs “that extra push over the cliff.” Luxury businesses are now going to 11. This fall, a new resort, the Setai, opened in Miami Beach, offering unprecedented luxury and service. Some luxury watchers have dubbed it America’s first “6-star hotel”. And here, as in so many other areas, American luxury aficionados are taking their cues from foreign goods. There is already a 6-star casino/hotel in Macau, and a 7-star hotel in Dubai. For the ultra-rich these days, too much is never quite enough.

Link here.


“The 1990s failed to mark the end of history. It just took a short holiday, instead – and at the very same time, historians and pundits alike announced the ‘death of gold’, too.”

If what you think depends on where you sit, then in early 2000, Oxford historian Niall Ferguson – like pretty much everyone else who pulled up a chair and took a look – sat two decades into the final demise of gold as a valuable asset. How was he to know that gold’s 20-year bear market was about to hit rock bottom, or that his own TV and book-signing career was about to take off, as well? He would soon earn tenure at Harvard University and the Harvard Business School, plus a weekly column in the Los Angeles Times.

But in studying 300 years of “Money and Power in the Modern World”, as he subtitled his 2001 book, The Cash Nexus, professor Ferguson might have at least wondered whether tomorrow would bring something different for gold from today. The lesson of history, after all, is that nothing lasts forever ... nothing, perhaps, except gold. Least reactive of all metals and impossible to destroy with anything other than cyanide to dissolve it, gold had been used as a store of wealth across the world for more than 3,500 years. By the end of the 20th century, however, the more recent past read like an obituary for the “barbarous relic” of ancient kings.

Hence the “death of gold”, proclaimed by a Financial Times editorial in 1997, together with The Economist’s seemingly annual rant against gold throughout that decade. Come October 1999, and BusinessWeek told its readers, “This ancient form of wealth is less an international currency and stable store of value than ever before. It’s just another commodity that swings to the global rhythm of supply and demand.”

In short, “The twilight of gold appeared to have arrived,” agreed professor Ferguson, stepping out of the lecture hall and into his gypsy fortune-teller’s painted caravan. “True, total blackout is still some way off,” he forecast in his 2001 book, and “Gold has a future, of course, but mainly as jewelry.”

All the evidence he gathered together at the turn of this century pointed to “the creeping demonetization” of gold. First, the international gold standard had collapsed at the start of World War I, after dominating global finance for barely 13 years. The gold exchange system of world currencies that followed it seemed only to spread and deepen the Great Depression. In turn, it collapsed, too, on the eve of World War II. The U.S. ceased paying gold in exchange for U.S. dollars in 1971, finally destroying the post-war Bretton Woods settlement and severing all links between the world’s most important currency and the “barbarous relic” of gold.

Funnily enough, the end of gold’s convertibility into dollars sparked a 24-fold spike in its dollar price by the start of 1980. But “The surge in gold prices that occurred during the 1970s was historically anomalous,” said Ferguson as the 20th century drew to a close, “reflecting a sudden increase in demand for gold ... and the rapid depreciation of most Western currencies relative to oil and other commodities.”

The “historical anomaly” of $850 gold lasted just one day – January 21, 1980 – and from then on, gold’s role as a monetary asset sank almost as fast as its price. By the end of 1999, the gold price was languishing at a 20-year low. Then the British government, founder and guardian of the international gold standard a century before, picked its moment to sell half of its national gold reserves, swapping the metal for dollars, euros, and yen to keep in the Bank of England’s vaults.

At the very same time, the Swiss National Bank – the last of the world’s central banks to abandon the gold standard in the 1930s – sold half of its gold reserves, too. The sale required a change to the Swiss constitution, and that required a national referendum of the Swiss people, plus a rewriting of Switzerland’s currency statutes! But the central banks of Argentina, Austria, Australia, Belgium, Canada, Luxembourg, the Czech Republic, and India were already selling gold by this point. What comfort were the Swiss people hoping to take from gold bullion, anyway? The changes were ratified, the legal link between gold and the Swiss franc was severed at last, and the SNB began the sale of 1,300 tons of gold in a 5-year program.

“From the point of view of investors in the West, where the possibility (or at least the memory) of financial catastrophe has receded, the twilight of gold makes some sense,” Ferguson went on. “As an investment, gold has signally underperformed stocks and government bonds in the United States and Britain in the past century.” Surveying the world from the dreaming spires of Oxford, however, “Gold also has a future as a store of value in parts of the world with primitive or unstable monetary and financial systems,” forecast the don. “Gold will [also] continue to have an appeal as a store of value anywhere where currencies or banking systems are fragile,” he added, pointing to “the countries of the former Soviet Union.”

But given what has happened to world gold prices since then, however, might professor Ferguson now want to review his opinion of Western currencies and banking systems? Seeing the recent run on Northern Rock in Great Britain – and the near-run on Countrywide Bank in California, an event which Ferguson himself reported in a recent column for the LA Times – might Western governments also want to reconsider their disdain for gold, that barbarous relic of less enlightened times?

Fast-forward to late 2007 and gold is now approaching its 7th annual gain on the trot. Rising by nearly a quarter against the dollar over the last 12 months – and rising by 10% and more against both the euro and British pound – the “anomaly” of surging gold prices in the 1970s has made a comeback.

Put another way, the “long boom” enjoyed from 1982-2000 may have discounted tech-stock earnings until A.D. 2146 on the NASDAQ index, but it failed to abolish the threat of instability in Europe and the U.S. At least, that is what the gold market has been saying since the current surge got under way in mid-2005. And just as the famous “End of History” proclaimed by Francis Fukuyama in 1989 proved to be merely a weekend vacation during the mid-to-late 1990s, so the “death of gold” announced by historians, pundits, and analysts at the very same time has proved somewhat premature.

Of course, investors joining this bull market now should beware of repeating their error. But if deciding to buy gold feels at all hard today, it might suggest the top of this market remains a long way off yet. And for as long as Bloomberg columnists argue that buying gold is like “believing in the tooth fairy,” you might also take comfort in the fact that the mainstream consensus is still opposed to gold.

Just like it was at the turn of this century.

Link here.


Rule #2: Don’t forget rule #1.

Beating the S&P 500 ... That is the focus of modern investing in America. Every professional investor wants to beat the S&P, both for the sake of ego and for the sake of continuing employment. A fund manager’s performance relative to the S&P has become like a golf handicap – a source of prestige for the “alpha achievers”, but a mark of shame for the underachievers. The more successfully a professional investor speculates with his clients’ money, the better his handicap.

But investing did not used to be a game or a competition. It used to be a process for preserving wealth. When my grandfather bought shares of companies such as General Electric and Alcoa Aluminum, he did not care about the S&P 500. He focused on safety. His goal was to save a dollar. Growth beyond dividends, however moderate, was a bonus.

You see, my grandfather was a child of a cautious generation ... a group of people for whom the Great Depression was much more than a chapter or two in the 13th edition of some high school history book. But there is a new American generation ... an “entitlement class” weaned on the bottle of instant gratification. This generation scorns single-digit returns ... especially when the S&P gains 15% per year.

But that type of thinking ignores what Warren Buffett calls the very first rule of investing: “Don’t lose money.” Successful investing requires a combination of patience, realistic expectations and, most importantly, buying shares of businesses at the right prices.

As investors, we are looking for a margin of safety – companies trading near or below their intrinsic value with an established earning power. That is basically it. So here are four basic criteria I pursue in my investment letter, The Free Market Investor. You may recognize the thinking. Warren Buffett coined the parameters. It is a bit cliché, but we will humbly concede that if the wheel ain’t broke ... well, you know the rest. We always ask ourselves these four things:

  1. Is the business easy to understand?
  2. Does the business sell at a fair price?
  3. Does the business operate with a long-term competitive advantage?
  4. Does the foreign stock trade on a U.S. exchange?

Many of the large, integrated oil companies are classic examples of businesses that possess a long-term competitive advantage. Thanks to their substantial reserves of oil and gas, along with their irreplaceable infrastructure like refineries and pipelines, these companies operate with monopoly-like status.

One of the few financial certainties in the world right now is that oil is in great demand, that it is no longer cheap to drill and refine, and that it is not going to get any cheaper. The companies with competitive advantages in this arena will continue to do well. Two such companies are PetroChina (NYSE: PTR) and Sinopec (NYSE: SHI) – the big, national oil companies of China.

Here is why these companies possess a moat that even John D. Rockefeller or Cornelius Vanderbilt would envy. China’s acceptance into the World Trade Organization (WTO) in 2001 stipulated certain liberalization requirements aimed at opening the Chinese economy to foreign investors. But the arrival of foreign companies like Exxon and Shell will be symbolic at best. First, they will be forced to establish joint ventures with China’s two main players – PetroChina and Sinopec. Second, these joint ventures will not be some 50/50 marriage in which every participant gets a fair piece of the proverbial pie. One way or another, the Chinese government will maintain controlling interests in these ventures.

“The impact of opening up is almost insignificant because the two domestic oil companies still control the wholesale business to supply oil to the service stations,” said Zhang Jiaren, CFO of Sinopec. And the Chinese government will retain control of import and export licenses for crude oil and refined products. The WTO can force the Chinese to play with the likes of Exxon and Shell, but it cannot force the Chinese to play fair.

Foreign competition, therefore, will never pose a serious threat to either PetroChina or Sinopec’s market dominance. The two companies maintain roughly 50% market share of the retail market and 90% of the wholesale market. They will continue to do so as long as the Chinese economy demands oil and natural gas. That is a pretty safe bet.

I focus on great businesses at good prices. But there is no telling where those businesses will be located. Right now, a majority of the world’s growth is taking place in Asia, specifically in China and India. However, I always value liquidity. That is why I only focus on the foreign stocks that trade on U.S. exchanges. A simple discount brokerage account will work just fine.

Link here.


He is also buying yen, Swiss francs. Says bull market in stocks, bonds is “over”.

Jim Rogers said he is shifting all his assets out of the dollar and buying Chinese yuan because the Federal Reserve has eroded the value of the U.S. currency. “I’m in the process of – I hope in the next few months – getting all of my assets out of U.S. dollars,” said Rogers, 65, who correctly predicted the commodities rally in 1999. “I am that pessimistic about what is happening in the U.S.”

Rogers, delivering a presentation late yesterday at an investor’q meeting organized by ABN Amro Markets in Amsterdam, said he expects the Chinese currency to quadruple in the next decade and that he is holding on to commodities such as platinum, gold, silver and palladium.

The dollar has dropped against all the 16 most actively traded currencies except the Mexican peso this year. Since the Fed lowered U.S. interest rates on September 18, the first cut in four years, the dollar has fallen 2.8% against the euro. Gold has risen to a 27-year high and platinum jumped to a record. “It’s the official policy of the central bank and the U.S. to debase the currency,” said Rogers, a former partner of George Soros.

“The U.S. dollar is and has been the world’s reserve currency, the world’s medium of exchange,” he said. “That’s in the process of changing. The pound sterling, which used to be the world’s reserve currency, lost 80 percent of its value, top to bottom, as it went through the whole period of losing its status as the world’s reserve currency.”

The Chinese currency, known as the renminbi, or yuan, is “the best currency to buy right now,” Rogers said. “I don’t see how one can really lose on the renminbi in the next decade or so. It’s gotta go. It’s gotta triple. It’s gotta quadruple.”

The yuan strengthened past 7.5 to the dollar today for the first since the central bank ended a fixed exchange rate in July 2005. The currency has gained 10.5% since the dollar link was abandoned. China, growing faster than any other major economy, is “going to be the most important country in the 21st century,” he said. China’s GDP expanded 11.9% in the second quarter.

Rogers also is buying Swiss francs and Japanese yen, which he said have been “pounded down” because of the so-called carry trades – where investors borrow in countries with low interest rates, such as Japan, and invest the proceeds where rates are higher. Japan’s benchmark overnight lending rate is 0.5%, compared with 6.5% in Australia and 8.25% in New Zealand. The carry trades in yen and francs will “unwind someday,” which will send the currencies “straight up,” Rogers said. “I’m buying the yen.”

The bull markets in bonds and stocks are “over,” he said. “Bonds will be a terrible place to be for many years and will in fact be going down for many years.” Rogers said he remains bullish on commodities because “that’s where the big fortunes are going to be made in the world in the next five, or 10 or 15 years. The current bull market is going to last until sometime between 2014 and 2022.”

Commodity prices have surged as demand for raw materials, especially from China, rose faster than producers were able to increase output. Agricultural prices have led recent gains, including a record high for wheat last month and a three-year high in soybeans. “The number of hectares devoted to wheat farming has been declining for 30 years, the inventory levels of food are at the lowest level since 1972,” Rogers said. “Suppose we start having droughts again. God knows how high the price of agriculture is going to go, so that’s where I’m putting more of my money now than in other things. ... I think I’m going to make more money in agriculture than I make in precious metals.” Platinum, gold, silver and palladium will “be much, much higher during the course of the bull market.”

Link here.


The long world boom, driven by cheap money and resulting in high commodity prices, has had one overwhelming disadvantage: it has empowered a series of economic fruitcakes – national leaders and private sector investors who operate on principles that make no economic sense. Without Schumpeteran “creative destruction” there is no force separating the sound from the unsound, the valuable from the insane. The long term destruction of wealth through this process will be far greater than the short term profits such people think they are creating.

Hugo Chavez has been in power for nearly a decade in Venezuela. The previous governments had been so corrupt and so economically unsuccessful (lowering national productivity by more than 25% in the period 1970-1998) that the vast majority of Venezuelan voters knew a change was needed, but in 1998 they chose the wrong one. Chavez was in severe danger of being ousted in 2001-02 and indeed was temporarily removed by a coup (which in the good old pre-Watergate days of the James Jesus Angleton CIA the U.S. would have supported properly.) However after 2002 the rise in oil prices allowed him to pursue a foreign and domestic policy that won adequate support from his electorate, even though the generation-long decline in Venezuelan productivity only accelerated. Now he has control of the Orinoco tar sands, the U.S. has suffered severe strategic damage from his rule, at least while oil supplies remain tight.

Similar examples exist outside Latin America. The reformist Iranian government of Mohammad Khatami in 1997-2005 probably had little chance in any case against foolish U.S. intransigence, but the anti-reformist and belligerent Mahmoud Ahmadinejad in power since 2005 has benefited immensely from the flow of oil money under his rule. High commodity prices have also helped in propping up tottering corrupt autocracies in Myanmar, Chad and the Congo, and did so in South Africa in the 1970s.

The most politically important example of an economically counterproductive regime cemented in power by high oil prices is Vladimir Putin’s government in Russia. Putin in his early years was economically reformist, instituting a 13% flat tax that brought massive economic growth. However his seizure of oil assets and harassment of foreign investors since 2003 must by now have had a major negative effect, had it not been for the continually soaring oil price. With high oil and gas prices, Putin can keep Russian business under political control, and can use Gazprom’s supply capabilities to harass both his near abroad in the former Soviet Union and the more distant but more economically powerful countries of Western Europe.

Once oil prices drop, it will be very interesting to see what happens to the Putin regime. My guess is that it will descend into pure autocracy, as it will no longer be able to win elections or pursue an activist foreign policy through building up its military power. But as the old Soviet Union showed, economically sclerotic autocracies can last a remarkably long time.

The political consequences of low interest rates and high commodity prices have been seen within the U.S. as well as overseas. The subsidies for producing ethanol from corn, an environmentally damaging and entropically futile effort, are encouraged by the high price and scarcity of petroleum. The house price boom of 2002-05 was entirely caused by low interest rates. It is now having its inevitable effect in producing calls for bailouts of foolish subprime homebuyers. Most damaging and subtle of all, the continual rise of asset prices has convinced middle-class Americans both that they do not need to save and that the old paradigm of near-lifetime employment, good pensions and subsidized healthcare was in some way inefficient and can be replaced by workforce turnover and stock option grants.

In the private sector, bull markets always encourage speculators and this has happened with additional force in this cycle. In the late 1990s, analysts who did not analyze combined with accountants who did not audit and day traders who knew nothing about fundamentals to produce short term profits for some and long term costs for the economy. Since 2002, the mortgage banking industry has been built up on a series of intellectually untenable theories:

A decade of loose money and rising asset prices has also made the financial services industry economically illiterate, at least at its margins. Hedge funds, in particular have engaged in a wide variety of short term games that must consume them in the long run. The “carry trade” of borrowing yen and lending other currencies, for example, is not a viable long term business strategy. The assumption that Value At Risk models manage risk adequately, and remain equally adequate however arcane the derivatives being managed is also a nonsense that would have been quickly quashed in a normal market. The private equity business, that has landed the banking sector with $200 billion of “bridge financing” with no opposite pier to the bridge in sight, would also have been brought back to earth quickly with tight money, as it was after the RJR Nabisco debacle in 1988. In the 1980s, Mike Milken’s creative usage of junk bonds to finance ever more speculative transactions lasted less than a decade before producing bankruptcy for his firm and imprisonment for him. Equivalent follies have lasted far longer this time around. It is not a good thing.

Link here.
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