Bank of America CEO Ken Lewis feels that the economy is bottoming out and the worst is likely behind us. Other business leaders report stabilization in their business as well with some tech CEOs even seeing an uptick in their businesses. The Feds also report seeing tentative signs of economic recovery and estimate that the economy will start showing more palpable recovery later this year. However, they think that the unemployment rate will likely touch 10%.

It is debatable whether the signs out there do point to a real economic  recovery taking place. Calls for the bottom have been made many times during this recession (including Buffett’s call to Buy America) but so far they have been more of a miss. When the economy does indeed recover, the financial landscape in America (and possibly around the globe) will have changed.

Changing regulatory environment

Take for example the two fixtures in the financial regulatory setup, SEC and the Federal Reserve. Federal Reserve was created nearly 100 years ago in response to a financial crisis. It is a curious institution of sorts, as it is not really a government agency but more of a public-private hybrid institutions, where private banks have a great say in how the Federal Reserve is run and who the office bearers are. This quasi-private institution is essentially in charge of some of the basic functions of a state: controlling the money supply and setting the interest rates (cost of credit). As such, there have been questions often asked about the relationship of the Fed with the private banks in the country and whether there are conflicts of interest that impair the Fed from making right decisions at all times.

SEC on the other hand was established to oversee the proper functioning of the securities market in the US. For much too long, SEC has been too close to some of the entities they were supposed to be regulating resulting in much inaction and letting abusive market practices slide by unchecked.

Obama administration now proposes to overhaul the regulatory structure in US by bringing disparate agencies and their functions together and consolidating regulatory powers in a unified agency. Additionally, the administration also wants to regulate mortgages and credit cards through this new agency (or a similar agency for the consumer credit). Already, many credit card companies are up in arms saying new regulations on credit cards will make credit harder to get for an average consumer, even if the consumer sports an exemplary credit history.

While no fan of government regulations, I believe some is needed to avoid the country getting drunk on loose credit as it happened. Reduction in use of credit cards is not bad in my book and if it serves to help the consumers rediscover the benefit of living below their means, that it is all good. I do not believe that the credit card industry has a god given right to expand and grow at all costs. However, the government needs to take care not to extend their reach so deep that credit becomes scarce for legitimate businesses. The concept of risk taking and spirit of entrepreneurship needs to live on. If anything, credit situation needs to be eased for businesses so new start-ups and entrepreunerial companies can get funds without having to tap into a founder’s personal credit card, which will probably become more difficult to do in the future.

Maybe the SBA needs a revamp too.

Post from: Arohan's investing life

As Economic Recovery Takes Hold, Get Ready for a Changing Regulatory Environment

Related posts:

1. Geithner’s plan should work Basics of the plan as outlined in Tim Geithner’s press...
2. Bank Stress Tests and Signs of Economic Recovery and Inflation Results of the bank stress test performed by the Obama...
3. Citigroup Getting from Bad to Worse It has been said that Citigroup as a behemoth...

It has been said that Citigroup as a behemoth is unmanageable. Over the last decade I have had several experiences with Citigroup that although at the time I have tended to dismiss them as one off problems, now I am more inclined to see them as a symptom of a company that has no idea of what it is doing or how to keep their customers happy.

Example 1: 7 years ago I opened a banking account with Citibank when I was posted in Chicago. My banking experience with them was excellent and I was a fan of their online bill payment service, which was best in the class. After about a year and half I moved to a part of the country where there were no Citibank local branches or ATMs available. So I called them to close my account and I opened a relationship with a local bank.

The call to close the account was not as straight forward as it is supposed to be. They agreed that there is no way I can realistically bank with Citibank in my new geographical location, but they recommended that I can always bank online. When I pointed out that there are no local Citi ATMs, they informed me that I can use any of the other bank ATMs to withdraw cash and make deposits. But sorry, they will not reimburse the ATM fees charged by the other bank’s ATMs. It took me some time to overcome the meaningless hard sell and finally close the account.

It is about 6 years later and I still receive regular emails from Citibank regarding my bank account (for my ATM card ending in …xxxx).

Hmm, maybe they have not figured out how to link their email systems to their active accounts properly.

Example 2: Fast forward to three days ago.

I carry the top of the line Citibank World Elite Mastercard, supposedly only offered to their best customers. They issued a replacement card with a new account number in April, as they said that my earlier account was likely compromised at a (undisclosed) merchant. This has happened before and the transition at that time happened seamlessly so I had no reason to believe that this time it would be different. They told me that my old card will stop working on a certain date in May and therefore I need to activate my replacement card prior to that day, which I did in early may.

My card was declined at a store 2 days ago. I called Citi and was told that I was overdue on my April bill. I explained to her that it is not possible as I receive electronic bill at my bank and it is set up to pay automatically. But I will go back and check my records as soon as I get home and will call the customer support with the information. I did and found that the April bill was never received.

The best we could figure out was that when they sent the replacement card, they transferred the balance from the old card to the new card but since I only activated the new card few days ago, the bill was never sent out (I don’t understand how they can transfer the balance to a new card which is not yet activated). And since no bill was sent out, none was paid.

Here is a little background: Ever since I have had this card with Citibank, the bill has always been paid on time and in full. I never carry a balance, never charge more than 25% of my credit limit, etc. I have excellent credit. In short, one of the least risky customers that the bank has.

Anyhow, the customer service (had to go to the supervisor) was nice enough to admit that this was their fault and the transition was not handled properly and they will make a notation on the account and will credit back the late fee and the finance charges. I made the payment online (on a saturday) and it is estimated to hit their books on Tuesday.

Here is the kicker: Starting Sunday, I have been receiving calls from Citi Collections, 4-5 times a day on my cellphone over the past due amount. Since they never leave a message, it has been hard to talk to them. Today I did manage to get a live person to talk and she told me that there is no way to stop these automated calls until the check is posted to the account. I had to tell her that maybe they should consider fixing their system.

What is the point of having a premium-elite-gilt-edged account with Citibank if they do not have a courtesy to call and warn you of a potential problem before they start declining charges? And why after you admit it is your problem and that it is now resolved, do you continue to make collections calls. And why is your grace period now less than a week? Citibank is now getting aggressive in dealing with credit card delinquencies by turning accounts over to collections even if the account is past due by 1 day. Yes, this has been an annoyance and maybe they will fix the situation, but I have to wonder if they have been so callous with their best customers in highest level of relationship accounts (to the point where I am now seriously considering taking my business elsewhere), maybe they will succeed in getting rid of their least risky customers and be left behind with only the risky ones. It is good to be aggressive but you do not need to bite the hand that feeds you.

But worst of all, it confirms what I suspected earlier, left hand at Citi does not know what the right hand is doing. As such, I would seriously advise anyone considering buying Citi stock to reconsider and if you already own the stock then figure out an exit. The problems at Citi run deep and a de-facto government ownership is likely to make it even worse.

Freefrombroke recently wrote an article that Credit Cards don’t Suck, You Suck. I will have to add to this by saying sometimes credit cards don’t suck, you don’t suck, but the credit card company sucks!

Post from: Arohan's investing life

Citigroup Getting from Bad to Worse

Related posts:

1. The taxes, the Rich, the Poor and fairness Why do the rich get the biggest tax breaks? Is...
2. Market Update Feb 17 2009 GM and Chrysler go back to the Congress today to...
3. As Economic Recovery Takes Hold, Get Ready for a Changing Regulatory Environment Bank of America CEO Ken Lewis feels that the...

And the Bank of America stock is up almost 16% today on the news. What gives?

Bank of America has many options going forward. It may be able to sell its stake in Itau Unibanco, worth about $3B come September. It may also be able to raise capital by selling its remaining stake in China Construction Bank. It is also putting its Columbia Management unit up for sale. But more strikingly, since the capital gap is less than the $45 Billion in TARP funds already commited to BAC, the company estimates that it can meet the tangible equity needs by just converting the preferreds offered to the government under TARP into common equity (and possibly retire $11 Billion in TARP borrowing in the process).

This would of course make the government a significant shareholder in the company and at the same time dilute the existing shareholders.

April ADP report shows the job losses moderating. Mortgage applications also rose by 2% in the week ending May 1. Does this mean that we should now start worrying about inflation?

Here is a post I made over at Personal Dividends talking about investing during periods of high inflation. When the inflation gets going, it is going to be ugly. By some estimates, about 37% of the money supply today was printed in the first 100 days of the Obama presidency. Credit to the administration in its ruthless efficiency in printing money but one wishes some foresight would have gone into it. This statistic alone boggles my mind. Inflation is now the biggest risk to the economy on the horizon. What do you think?

Post from: Arohan's investing life

Bank Stress Tests and Signs of Economic Recovery and Inflation

Related posts:

1. As Economic Recovery Takes Hold, Get Ready for a Changing Regulatory Environment Bank of America CEO Ken Lewis feels that the...
2. Mark to market may get revised, household net worth falls House panel gets FASB to pledge to act on the...
3. Time to implement bad bank model with Citigroup to save our financial institutions and resolve the credit crisis Now that the government owns 36% of Citigroup there are...

It is end of March, 2009 as I write this and the economic crisis that has gripped the US and the World shows no signs of abetting. Everyone from Wall Street to the Main Street has been transfixed by the drama unfolding in the markets and the rapid and total collapse of the financial system and repeated intrusions by the government in the private enterprise and the ballooning cost to the taxpayers has everyone worried. How did things go so wrong? Why were our institutions so reckless and fragile? The story still continues to unfold. John Bougearel recounts the history and the economic events leading upto the situation we are in today in his recently released book Riding the Storm Out.

There is always a danger in writing a historical narrative when the events are still playing out as there is no benefit of the hind-sight. In this context, John Bougearel does an excellent job of outlining the chronology of economic events that led to the worst recession since Great Depression. The book offers the authors deep insight as he explains how different events, lack of regulatory oversight, and government’s policy mistakes came together in precipitating the economic crisis. Greed and Leverage and inadequate risk control systems were part of the genesis of the economic crisis and as the author points out, the red flags had started appearing long time ago. As long as the music plays, we will continue to dance, in the words of now ex- Citi CEO Chuck Prince!

The author reaches back in history to compare the elements of the current economic crisis to the many economic crises that occurred in the past (including the Great Depression). As he points out, there are many parallels. There are also many learnings from the past crises, that apparently the regulators failed to apply in their response to the current one. I was however, disappointed that the Author did not mention the Japan’s lost decade which was also spawned out of a real-estate bubble and where the banks continue to carry toxic debt on their books for many many years hoping that the values will re-inflate. I think the Japanese deflation probably carries more learnings and messages for the US regulators on what not to do when trying to fix the real-estate and banking sectors in this country.

Overall it is a great book to read, written in a very down to earth style and probably the first book out of the gates to attempt to chronicle the current economic crisis as it is happening. Maybe some will find John’s prediction of hyperinflation and collapse of the US dollar in the future to be alarmist, but I think that these are very realistic outcomes (probably more so now, given the humongo-gargantuan deficits that we now intend to run for the foreseeable future).

The key to understanding how we should react and act in the coming economic climate is to understand what has happened in the history. In that vein, I will definitely recommend my readers to get a copy of this book and read it.

The book can be ordered at the Author’s website. John also writes several financial newsletters that you can order from his website if you are interested. You may also wish to subscribe to John’s Blog at Trading Tips with John Bougearel.

Post from: Arohan's investing life

Book Review – Riding the Storm Out by John Bougearel

Related posts:

1. Book Review – The Cure for Money Madness We generally have a complicated relationship with money, and...
2. Time to implement bad bank model with Citigroup to save our financial institutions and resolve the credit crisis Now that the government owns 36% of Citigroup there are...
3. These are the days that define you as an investor There are so many cliches that come to mind …...

First we had the spectacle of the CEOs traveling to the nation’s capital in their own separate private jets, to beg for money. Then we were told that the CEOs didn’t really had a clue as to how they will turn the companies around when they were asking for money. No business plan. Nothing! They were then given a few months to work out a business plan and the deadline is here. They still do not have a plausible business plan that has a chance to work. Maybe, they are so big, or maybe, this industry is so critical to the country, that they have a luxury of letting the deadlines pass without having to do the hard work of extracting tough concessions from the Unions and the debt holders. After all, Obama has been spending money left and right, they think, surely he won’t deny them more bailout funds just because they do not know how to run a profitable company!

Wagoner had to go. No one can preside over years and years of shareholder wealth destruction and expect to continue to hold his position. One wonders why the shareholders did not boot him out earlier. So in my opinion, this is the right move on the administration’s part. The problem now is that the Union has dug their heels and is now the biggest obstacle to the survival of the big 3 US auto companies. There is no way the big 3 can return to a long term sustained profitability unless the Unions are busted and the legacy costs are restructured or eliminated. This can only happen through a bankruptcy process, controlled or not. And one of GM or Chrysler or both will ultimately find them self under liquidation if the Union  and legacy cost problem is not solved. Ford’s decision to stay out of bailouts was a brilliant move as they calculated that these problems will be addressed for them when one or both of the other big-3 are under bankruptcy process. I assume that this is one of the war game scenario that has played in Ford’s boardrooms many many times now.

Fact of the matter is, when there is too much supply and declining demand, the capacity needs to be reduced. Since these automakers lose money on each car, reducing production is not going to help much unless they make significant moves to eliminate some of the fixed costs. Which means, they either need to shrink very rapidly to survive or we need fewer market players in this sector.

Point to ponder: Ever wonder why the Union (UAW) would not give any more concessions, even risking a closure of one of the auto companies in the process that will surely hurt many of their members?

Answer (as told to me by someone in the know): If they give concessions that affect their entire membership (like wage reductions or benefits reduction), the entire membership is going to be unhappy with the Union leadership and their clout weakens. They would rather have a portion of the membership take all the pain (let’s say if Chrysler or GM goes bankrupt) if there is a chance that the remaining members will stay happy and support the leadership and keep the union going in the future.

The US automotive industry has been dysfunctional for some time and it needs to be simplified and fixed. It is not a question of technology or skills that are hamstringing the big-3. It is just the business model that does not work anymore. If one or more of the big-3 die out, it does not mean that the US automotive industry has reached its end. Most new automotive jobs in US are created by foreign automakers anyway. The void will allow the remaining automakers to become more profitable as supply is brought down, and it will also allow new more nimble and forward thinking auto company to emerge (for example, Tesla). We have seen instances of a mining company like 3M completely transform itself with time, a furniture maker (Nokia) turn into the world’s largest cell phone manufacturer, Corning (glass maker) change its business many many times to keep up with the changing times. It is lamentable that the auto-makers were not able to change with the times given the fact that many of the problems plaguing them (quality, design, etc) have been decades in the making. I for one am glad that the Obama administration has chosen to draw a line now.

Post from: Arohan's investing life

GM and Chrysler denied additional long term life support- US automotive industry needs a restructuring

Related posts:

1. Bailout of Autos and other related thoughts Bailing out big 3 automakers is not a good idea...
2. Leucadia National has Delivered Better Returns over Long Term than Berkshire A value investor goes about his craft quietly. No fancy...
3. Bank nationalization is an option? Really? It appears that the calls for nationalization of some of...

Partnership with private actors such as pension funds, hedge funds and other money management institutions is intended to allow for price discovery of these assets. However, the initial reports suggest that the private money component could be as little as 7% of the total money committed to the program with the government putting up another 7% and the remaining 86% will be in the form of a low interest loan by FDIC. Essentially, the government will be carrying 93% of the risk. However, the risk could be very little if sufficient discount to the nominal value of the toxic mortgages is obtained. But this is a big IF.

Now here is the problem. If the taxpayers are to take on as little risk as possible, the assets will need to be severely discounted. This means that the banks will need to write down the value of the assets further if they have not yet written it down heavily enough. This would make some of the banks who were not aggressive enough in writing down the value of these assets wary of selling into the program. On the other hand, those banks who did write down the value of the toxic assets very aggressively on their books may in theory be able to get a breakeven or better price when selling into the program.

$1 Trillion in commitments should not mean that this much money will eventually be spent. Existing home sales picked up in February, the mortgage rates have declined to a very low level, and if these trends continue, we may see the real estate markets firming up this year. If the program starts buying these toxic assets and that in turn allows the banks to start making new mortgage loans and the buyers start coming back to the market than it is likely that some of these ‘toxic’ assets on the banks books may start increasing in value, in which case the banks may decide not to sell these to the program. In a sense, a lot depends on how well the recent Fed actions on buying up domestic debt and expanding the Fannie and Freddie capacity to buy mortgages work. However, if Geithner is banking on the economy to firm up to make a success out of this plan than we are probably in for a rough ride ahead.

The bigger question is whether institutions will step up and participate in this program. There is very little incentive for them to do so and the recent furor on executive pay will surely make them leery. It all depends on how attractive the pricing is for these assets and a sense of assurance that the administration will not seek to levy extraordinary tax on the profits thus generated sometime in the future.

I am sure there is a sweet spot for pricing where the banks would be willing to sell and the institutions will be willing to buy and the program depends of this to be effective. Hopefully in the weeks and days to come we will know if this is indeed the case. This plan, as demented as it is, is probably the best we can get out of this Treasury and I hope it works.

I will be very tempted to buy stock in the banks that do sell into this program as it would be a signal that they were very aggressive in writing down the asset values. Assuming of course, that there are buyers in the market for these assets.

As an aside, do I think this is the best plan to fix our banking mess? Absolutely not! A far better plan would be to segregate these toxic assets in a bad bank (there will need to be a bad bank carved out of every large domestic bank), spin off the good parts to existing shareholders so they survive and create economic value for the society and shareholder value is enhanced, and then possibly sell the bad bank in the public markets or let it go bankrupt. No tax payer dollars will be at risk and no price discovery will be needed. Please read my earlier article on how the Government can start this process with Citigroup.

Post from: Arohan's investing life

Treasury to purchase toxic assets off the bank balance sheets in another unnecessarily complicated plan

Related posts:

1. Time to implement bad bank model with Citigroup to save our financial institutions and resolve the credit crisis Now that the government owns 36% of Citigroup there are...
2. Geithner’s plan should work Basics of the plan as outlined in Tim Geithner’s press...
3. Market Update Feb 9 2009 The bank bailout proposal has been delayed until tuesday and...

Leucadia National (LUK)

For a greater part of the last decade, an investment made in Leucadia National stock (LUK) in 1990, would have returned better for the shareholders than a comparable investment made in Berkshire Hathaway stock (BRKA) at the same time. The stock has returned over 20% compounded growth since 1979. As such, it feels strange calling Leucadia National as the Next Warren Buffett stock since it already has a terrific history. Like Buffett, Leucadia believes in taking a meaningful stake in the companies they buy. Unlike Buffett, the company has never shied away from investing in new businesses because it falls outside of their circle of competence. They have one of the best due diligence groups in the industry and they excel at finding creative ways of getting a deal done. They are also quite adapt at making lemonade out of a lemon, at times exiting investments at a profit when it appeared unlikely that this is possible (e.g. Wiltel). But best of all, they take a very long term view and are willing to sit on their investments even if the markets around them are falling apart.

Leucadia’s current holdings are quite diverse and include stakes in auto loans, investment banking, mining (copper, iron), wineries, real estate, etc. The theme common to all these holdings is the bargain price they were acquired at. Leucadia does take an active role in managing the companies it acquires which also makes them different from Buffett. In the last one year Leucadia National has been busy acquiring stakes in Americredit and Jeffries even as the financials were melting down.

Leucadia stock is down almost 75% in the last one year and currently trades close to book value, which has also been revised down as the financials and commodities have taken a hit. This level of valuation has been historically a great time to buy Leucadia and as such I have been diligently adding to my positions right now.

Disclosure: Author owns stock in Leucadia National

Post from: Arohan's investing life

Leucadia National has Delivered Better Returns over Long Term than Berkshire

Related posts:

1. Buffett’s portfolio moves and Berkowitz loses confidence in Buffett Warren Buffet made some interesting changes to Berkshire Hathaway’s investment...
2. Markel Corp, an Offbeat Insurer and Value Investing Vehicle This next article in the series has been a long...
3. Can Hedge funds really beat the market over a long term? Can Hedge funds really beat the market over a long...

Banks are queing up to return the TARP money. No one likes bailouts, specifically, those banks who can carry on their business without government aid.

Fed reports that American household net worth fell by a record 9% in Q4, 2008 or about 20% from its peak. Declining home values, unemployment and fall in investments are the key factors. Total household net worth is now at $51.48 trillion according to the feds.

For an interesting perspective, the total CDS (Credit Default Swaps) market estimates are close to $50 trillion.

General Electric lost its coveted AAA rating at Standard and Poor by a notch mainly due to concerns over GE Capital. However, its industrial arm is performing well and therefore deeper cut is not warranted according to S&P. If you recall, GE recently cut its dividend by 68%, estimating it will save the company about $9 Billion a year.

The markets are up following the rating cut as many feared the cut would be deeper. Additionally, february retail sales fell but not as much as many expected.

We live in interesting economic times.

Post from: Arohan's investing life

Mark to market may get revised, household net worth falls

Related posts:

1. Treasury to purchase toxic assets off the bank balance sheets in another unnecessarily complicated plan Today the Treasury Secretary  Tim Geithner revealed yet another plan...
2. Rescue bill approved, long road to recovery awaits What a relief! The House finally approved the $700 B...
3. Market update Feb 3 2009 PNC Financial Services posts a 4Q loss and estimates a...

Nevertheless, there are two very significant deals or almost deals that have come out. Merck buying Schering Plough for almost $41B has been all over the wires. This is a very attractive deal for Schering and it does not appear that Schering shareholders will object. The deal still has to pass the federal scrutiny.

The other news is a likely acquisition in full of Genentech by Roche Holdings. Roche made a $93/share offer last friday and they might go up to $95/share to seal the deal. Roche already owns 44% of Genentech.

Both these deals will create a behemoth health care company. While I do not particularly care for the size of the company as I believe that the company will and should live and die based on the value it can create. If the scale is no longer economic, the markets will force a breakup or a spin off, as should be the case. No, the concern I have is our propensity to term a large company as too big to fail and the inability of the government to let the markets do their work because they get caught up in the populism aspect of the government policy.

In additional news, World Bank now predicts the global economy will shrink in 2009, with international trade declining the fastest in 80 years. As the cost of stimulus in the developed economies keeps rising, poorer nations will get crowded out of the global lending markets and this has a potential to create dislocations and conflicts around the world

Post from: Arohan's investing life

M&A starts up in Health Care, economy still in the tailspin

Related posts:

1. Buffett’s portfolio moves and Berkowitz loses confidence in Buffett Warren Buffet made some interesting changes to Berkshire Hathaway’s investment...
2. Market Update Feb 11 2009 Stimulus package price tag is reduced to $789 B as...
3. Glimmer of hope! Are we at the bottom yet … What an interesting the last few days have been!!! LEH...

• Citigroup stock dipped below $1
• American Express stock dipped below $10
• Unemployment rate surges to 8.1%, the highest in 25 years
• GM’s market capitalization has now dipped below $1 Billion mark (I mean, seriously!) and a bankruptcy appears to be the likeliest outcome regardless of the spin the government will want to put on it. The stock now trades at a 75 year low
• GE, fresh off reporting record profits last year is now trading as if it will default on its debt obligations

On the other hand, it looks like the mythical consumer is now starting to show signs of life as the retail data starts showing an uptick. Hard to reconcile this with the fact that the job losses are accelerating and the credit is drying up. Where is the money coming from for increase in spending?

Still, the irrationality of the pessimism is astounding. I think it is about time that this value investor (and likely other value investing disciples) start to invest again in the market with new money. Over the next few weeks I will be spending time on due diligence scouring the markets for the most undervalued and promising assets that can be picked up for peanuts. Stay tuned.

Or rather, if you have ideas for cheap stocks, let’s hear them.

Post from: Arohan's investing life

All hope is lost now – I am busy looking at cheap stocks to buy

Related posts:

1. Time to invest in a manufacturing business New stimulus programs and focus on infrastructure projects and cheap...
2. Bank Stress Tests and Signs of Economic Recovery and Inflation Results of the bank stress test performed by the Obama...
3. Time to implement bad bank model with Citigroup to save our financial institutions and resolve the credit crisis Now that the government owns 36% of Citigroup there are...