Archive for 2009

  • The Strange Death of American Capitalism
    , May 17th, 2009 at 2:54 pm

    Book Review of Bailout Nation by Barry Ritholtz

    In The Strange Death of Liberal England, George Dangerfield famously described how the British Liberal Party—and by extension, England’s once-unshakable faith in liberalism—suddenly and unexpectedly vanished. Despite its outward appearance of solidity, once liberalism was challenged, it crumbled to dust. How could a faith that was so dominant for so long, suddenly disappear; not only die quickly—indeed with a whimper—but do so without putting up any resistance?

    These are similar questions future historians will have when they look back at the first decade of twenty-first century America. At the dawn of the new millennium, America’s faith in capitalism was also unshakable. Yet, within a few short weeks in 2008, the entire edifice came crashing down. Even voting didn’t seem to matter. First under a Republican administration and then under a Democratic one, large sectors of the economy received unprecedented amounts of government support. A staggering $15 trillion of taxpayer money has been put on the line.

    The American economy reached its humiliating nadir at Davos earlier this year when our fiscal profligacy was criticized by the Wen Jiabao, the premier of what was once-called Red China. Worst of all, he was right.

    What Happened?

    In Bailout Nation: How Greed and Easy Money Corrupted Wall Street and Shook the World Economy, Barry Ritholtz takes on that question with gusto and the result is a wonderfully engaging book. Bailout Nation describes not only what happened and what went wrong, but also why. Don’t worry, you don’t need an advanced degree in economics to follow the story. Bailout Nation manages to be both comprehensive and easy to read.

    Ritholtz is already known to countless investors through his invaluable blog, The Big Picture. (Full disclose: He’s been a supporter of CWS from its earliest days.) I have to confess to having some initial reservations about Ritholtz’s book. What makes him a great blogger, I feared, might not transfer well to a 300-page sustained argument. Let’s just say that Ritholtz isn’t exactly a “shades of gray” kind of guy. When a rapier is needed, Ritholtz is fully willing to use a cluster bomb. If you don’t think it’s possible to get a true sense of moral outrage over, say, the latest BLS report, well…you haven’t read The Big Picture.

    Fortunately, my fears were unfounded. Ritholtz does very well in book form. His editor, Aaron Task, served him well; the prose is compact and well-organized, though I’m fairly certain of the sentences where Ritholtz shook off all editorial changes. Where Ritholtz truly shines is in drawing connections between seemingly disparate events; the fall of Bear Stearns, oleaginous mortgage brokers, the repeal of Glass-Steagall, the growth of credit default swaps, even the effects of reforming the Consumer Price Index, all play a role in this complex mess of unintended consequences, vicious cycles, ideological blindness and abject stupidity. I can’t remember the last time I had so much fun reading about the Apocalypse.

    There are, however, a few minor errors. The Jefferson quote, “Banking establishments are more dangerous than standing armies” (page 15) is probably bogus. Also, on page 96, Ritholtz writes, “the psychological impact that feeling financially flush has on spending cannot be underestimated.” He surely means overestimated. These errors are minor of course, and it may be a reflection of covering events in real time.

    Even before its release, Bailout Nation itself became a news story. In February, McGraw-Hill, the originally publisher, announced that it was ditching the project. Ritholtz claimed it was due to his criticisms of the Wall Street ratings agencies (McGraw-Hill owns Standard & Poor’s). McGraw-Hill denied this although curiously, the editor Ritholtz had been working with, resigned one week later. Fortunately, John Willey & Sons picked up the project and brought it to life (or, if you prefer, bailed it out).

    Lockheed Was the Original Sin

    So how did we end up were we are? Ritholtz persuasively makes the case that we didn’t suddenly abandon our capitalist faith. Instead, he argues that our fondness for bailouts isn’t new. Ritholtz pinpoints our original sin in the 1971 bailout of Lockheed. By today’s standard, that bailout was laughably small—just $250 million.

    The important point is that a new standard had been established, and the government and Corporate America responded accordingly. Soon, bailouts became like a narcotic. Our fixes could only be satiated by steadily larger rescues. Soon Penn Central received a bailout, followed by Chrysler a few years later, then Continental Illinois (which ironically found itself in the hands of Bank of America).

    Ritholtz agues that the bailouts, even when successful in the short-term, do considerable long-term damage. After the Chrysler bailout, for example, the already somnolent auto industry grew even more complacent. Ritholtz considers an alternative history: What if Chrysler had been allowed to fail? Might Detroit have reformed itself? We’ll never know because as the public became slowly inured to these bailouts, they were free to grow larger.

    Ritholtz expands his argument by adding the machinations of the Federal Reserve to the growing bailout trend. This is a crucial point because too few observers see the motives behind the central bank. Any good story needs a top-notch villain and in Bailout Nation, it’s a certain Randian jazz musician named Alan Greenspan.

    The Mess That Greenspan Made

    Ritholtz doesn’t suffer fools gladly and Greenspan gets a well-deserved skewering. Ritholtz tracks how Greenspan purposely and quite clearly altered the Fed’s mandate to include supporting asset prices. The facts Ritholtz presents are strong. The Fed-orchestrated bailout of LTCM had a profound effect on Wall Street’s risk-taking mentality. Whenever the market tumbled, Greenspan jumped in to cut rates. Bubbles, however, in tech stocks and later in housing were allowed to grow unchecked.

    According to Ritholtz, it was Dr. Greenpan’s tonic of absurdly low interest rates that led to an historic housing bubble and all the unpleasantness that followed. The effect was far more damaging than easy money.

    Ritholtz stresses that the Fed’s policies changed the rules of the game. For example, the bond market was now forced into a reckless “scramble for yields.” This in turn fed the practice of securitization which, in turned, fueled the disgraceful behavior of the ratings agencies. When yields were low, mischievous behavior flourished. At each juncture, the dots connect back to Greenspan who even disregarded his fellow members of the Federal Open Market Committee.

    Incidentally, the section on ratings agencies (pages 111 to 113) is hardly controversial. Ritholtz simply states what’s widely known, that the ratings practiced a form of payola. There’s no other way to say it—the agencies abandoned their professional and moral obligations.

    Real Capitalists Nationalize

    As for the debt crisis, Ritholtz writes, “From 1 million B.C. up until the present day, the ability to repay the debt has always been the dominant factor—except, however, for a brief five-year period starting around 2002.” It’s sadly true. One strawberry picker in California got a $720,000 loan despite his annual income of $14,000. The system morphed into capitalism without capital.

    Technically, the bubble wasn’t in housing, it was in credit. The numbers are staggering. At one point, close to half of all the new jobs created were tied to real estate. Between 2003 and 2006, 75% of GDP growth was solely due to mortgage equity withdrawals. From December 2006 to December 2007, the notional amounts outstanding of credit fault swaps more than quadrupled from $14 trillion to $58 trillion.

    Bailout Nation is quick-paced and Ritholtz sprinkles the test with illuminating charts and eye-catching statistics (i.e., Bear Stearns’ liquidity pool dropped by 90% in three days). He wryly notes that it you want to play the bailout game, make sure you do it first and do it big. Ritholtz also has a novel theory for the explosion in executive compensation on Wall Street, but I won’t spoil it for you here.

    Characteristicly, Ritholtz isn’t shy about naming names. In Chapter 19, he lists the folks most at fault for the credit mess. It won’t surprise you that Greenspan tops the list. Personally, I think the “savings glut” deserves more attention. Chapter 20 is an interesting take-down of the phony causes of our troubles, like naked shorting and the Community Reinvestment Act.

    I should add that Ritholtz is an equal opportunity critic. Many liberals won’t be pleased by his criticisms of bailouts and his dismal of systemic risk (or more accurately, the threat of systemic risk). Parts of the book could have been written by Milton Friedman. Ritholtz even repeats Friedman’s famous mantra, “there is no free lunch.” Plus, any book with a chapter titled, “The Virtues of Foreclosure,” isn’t about to win a Bleeding Heart of the Year award.

    Conservative will certainly take issue with Ritholtz’s criticisms of financial deregulation and his call for therapeutic nationalization. What I find most disturbing is how much of the government’s behavior was simply arbitrary. Ritholtz makes it clear: They were just making it up as they went along.

    Ritholtz favors temporarily nationalizing insolvent banks. Mind you, this ain’t exactly Pol Pot. Ritholtz merely wants bad banks taken out, cleaned up and restored to health. He believes it’s the solution that will cause the least damage (“real capitalists nationalize”). I think he’s on sound footing here. It’s odd that we can watch Citigroup fall from $57 to 97 cents, yet bringing it that last bit to $0 is somehow unacceptable. Ritholtz concludes, “Real capitalists nationalize; faux capitalists look for the free lunch.”

    At the beginning of The Strange Death of Liberal England, Dangerfield wrote of the Liberal’s final triumph, “From that victory they never recovered.” Let’s hope American capitalism doesn’t share their fate.

  • Barron’s Calls Shares of Medtronic “Cheap”
    , May 16th, 2009 at 8:12 pm

    In this weekend’s Barron’s, Neil Martin makes the case for Medtronic (MDT):

    Good news or bad, Medtronic’s stock is cheap. The shares are trading for 11.4 times fiscal ’09 estimates, and 10.5 times fiscal ’10 projections of $3.20 a share. That’s well below the 13 price/earnings multiple on the Standard & Poor’s 500 Health Care Equipment and Services index, and a P/E of 15 on the broader S&P. Medtronic itself hasn’t had such a low P/E in at least 10 years.
    Analyst Rick Wise at Leerink Swann rates the stock Market Perform, but hails the ability of management, led by Chief Executive Officer William Hawkins, to set “achievable growth targets” resulting in 5% to 7% organic top-line growth. “Longer term, for investors who have the patience to watch this scenario unfold, Medtronic is one of the least expensive stocks in the health-care universe,” he says.


    Earnings are coming out on Tuesday.

  • The Market Punishes Greed
    , May 16th, 2009 at 6:25 pm

    From George Will’s column:

    Studying the Internet site Stubhub, which is owned by eBay, Harrington monitored the secondary market in Ohio State University football tickets for the Oct. 25, 2008, game against Penn State that was attended by a stadium record crowd of 105,711. Stubhub acts as a broker, charging 15 percent from buyers and 10 percent from sellers, who can charge whatever they choose. Generally, a ticket’s value depends on the seat’s location — the lower in the stadium and the closer to the 50-yard line the better.
    Harrington collected two sets of information, one on Oct. 13, 12 days before the game, the other on Oct. 21, four days before. On Oct. 13 there were 346 sellers offering 682 tickets. Eight days later, 411 sellers were offering 845 tickets. In the interval, Ohio State beat Michigan State and undefeated Penn State beat Michigan, intensifying fans’ interest in the game.
    Yet the average price of the tickets offered declined from $359 to $304. This was partly because the quality (seat location) of the remaining tickets declined. Also the number of selling days was becoming smaller. Seats at entertainment events are, like airline seats, a perishable inventory: When the plane takes off, or the game begins, the value of an unsold ticket becomes zero.
    A greedy seller — one who priced his tickets too high — was less likely than other sellers were to sell them two weeks before the game. Hence he had to resort to much deeper discounts than others did as game day, and the potential worthlessness of his assets, drew near. The larger the number of seats available in the secondary market, and the more transparent that market is, thanks to the Internet, the more likely it is that greed will be punished.

  • Steven Pinker on The Cognitive Niche
    , May 16th, 2009 at 12:18 am

    Here’s Part 1 of the always fascinating Steven Pinker discussing the Cognitive Niche:

    Part 2
    Part 3
    Part 4
    Part 5
    Part 6

  • Stock Returns and Employment
    , May 15th, 2009 at 1:32 pm

    From 1947 through 2007, the nations’ unemployment rate was under 6% about two-thirds of the time, and over 6% the other one-third of the time.
    For the time the rate was under 6%, the stock showed an annualized real return of 3.7%. When the rate was over 6%, the real return jumped to 17.3%.
    The moral of the story is one I’m sure you already knew: Rotten times are great times to invest.

  • Depressing Stockton!
    , May 15th, 2009 at 10:33 am

    Clusterstock has an uplifting slide show of the most-depressing places in America. If you were thinking of moving to East St. Louis, this may cause you to think again.
    (Warning: It’s depressing)

  • Friday Rallies
    , May 14th, 2009 at 4:23 pm

    The S&P 500 has rallied for the last five straight Fridays. That’s pretty impressive that there are buyers going into the weekend, and I think it signals some important confidence in the market.
    So what’s the record for consecutive “up” Fridays? It turns out, we’re not even close. This is one of those Dimaggio-like records that may never be topped. From April to September 1955, the S&P 500 rose for an astounding 22 straight Fridays!
    In the 1950s, Friday was almost a guaranteed money maker. During the decade, the market rose on 63% of the Fridays. The cumulative return was 138% over effectively two years (one-fifth of a decade).
    For many years, the stock exchange had a brief Saturday session but that was eventually ditched in the early 50s.

  • Not Regina!
    , May 14th, 2009 at 2:24 pm

    Zero Hedge has this ultra-cool map of Chrysler dealership closures.
    States that are big losers are:
    * Pennsylvania: 53
    * Ohio: 47
    * Texas: 45
    * Illinois: 43
    * Michigan: 40
    * California: 31
    * New Jersey: 30
    * Florida: 29
    * New York: 26

  • 8 Bedroom/7 Bathroom House for $675,000
    , May 14th, 2009 at 1:00 pm

    Here’s a great deal on an 8 bedroom/7bathroom Tudor home. It has a three-car garage and a koi pond.
    About the location….

  • Merrll Lynch Goes After Zero Hedge
    , May 14th, 2009 at 10:18 am

    This is not good news:

    Now that Merrill Lynch has upgraded every single REIT and has a price target of +/- infinity, (conveniently pocketing over $100 million in the process), the company can focus on more pressing issues at hand (and no, not redecorating Thain’s legacy office in the neo-uber-criminal style). Instead, the bank has sent not one, not two, but a whopping six cease and desist orders to Zero Hedge. As the recently acquired bank can finally afford to pay lawyers again compliments of its REIT analysts, it has decided to pursue the source of all evil: all those David Rosenberg posts Zero Hedge has published, that seek to educate and provide some color to otherwise confused and CNBC abused readers and investors.
    If it is any consolation, now that David is literally out of the building, ML can sleep soundly that ZH will only focus on the bank’s daily REIT upgrades (no, we have not forgotten about those) as it is alas the only source amusement coming out of doomed mother Merrill.
    So, dear readers, please be aware that the following six posts will be removed at some point tonight as Zero Hedge is unable to underwrite and collect on average $10 million per REIT dilution events and thus afford any lawyers (except potentially for White & Case’s Tom Lauria).
    http://zerohedge.blogspot.com/2009/05/parting-thoughts-from-rosenberg-ver-10.html
    http://zerohedge.blogspot.com/2009/05/shooting-shoots.html
    http://zerohedge.blogspot.com/2009/05/look-back-at-week.html
    http://zerohedge.blogspot.com/2009/04/are-fed-and-markets-on-same-page.html
    http://zerohedge.blogspot.com/2009/04/spin-on-6-gdp.html
    http://zerohedge.blogspot.com/2009/04/busy-day-for-reit-analysts.html
    As for the 500 or so websites that fervently and automatically repost and redistribute ZH content, well, those we have no control over.