This post first appeared on Minyanville.
It's interesting that the Office of Housing and Urban Development (HUD) - that oversees the FHA - doesn't support Sen. Frank's proposal to expand its role in helping troubled borrowers.
This says two things. First, the FHA knows keeping borrowers in homes they can't afford may be good for individuals who got in over their heads, but it's bad for the system itself.
Second, compare FHA's attitude to that of Fannie Mae (FNM) and Freddie Mac (FRE), whose profit motive makes them ask for a bigger and bigger role regardless of risk it poses to the system. Incentives are the key to understanding why these entities do what they do.
Reprinted by Permission copy write 2008 Minyanville Publishing and Multimedia
Friday, April 25, 2008
Can Ambac Surive?: Credit markets explore life without bond insurer.
This post first appeared on Minyanville.
Ambac Financial (ABK) reminded investors all is still not well in the credit markets.
According to The Wall Street Journal, the bond insurer's $1.7 billion first quarter net loss was eight times greater than The Street's estimates. Notably, the company said $1 billion of its shortfall stemmed from relatively straightforward mortgage-backed securities, not complex collateralized debt obligations.
That analysts vastly underestimated Ambac's woes indicates that transparency in credit risk is still fuzzy. The reliability of the Bernanke Put has emboldened investors to shrug off what would have only months ago set off a panic. A reasonable assessment of the situation, given the extent to which the Federal Reserve and Treasury Department have proven willing to step in to support markets. Unfortunately, this crutch ignores economic reality.
The value of mortgage-backed securities is based primarily on the likelihood of borrowers making payments on the underlying loans. That cash flow is drying up as mortgage delinquencies continue to rise and falling home prices prices further depress the value of the bonds. Persistent economic weakness means these conditions will worsen.
Investors seem to be gingerly testing the hypothesis that the credit market can survive without Ambac, and maybe without its larger cousin MBIA (MBI).
Recall, however, the Fed's rationale for saving Bear Stearns (BSC). Bear's role in the multi-trillion credit derivatives market -- not its absolute size -- was the reason for the bailout. The term "counterparty risk" became a household term and the Fed feared a systemic failure if Bear were allowed to collapse on its own terms.
When Bear started falling apart, markets feared positions reliant on the solvency of entities on the other side of the transaction would lose their value. If a counterparty doesn't pick up the phone to honor its commitment, the trade is worthless.
Investors have been placated recently by loss provisions at investment banks like Merrill Lynch (MER) and Goldman Sachs (GS) for their exposure to MBIA and Ambac. This sentiment misses the point.
The risk is not simply that Ambac goes under and a few billion in additional equity gets wiped off the books of some Wall Street firms. Most have already proven willing and able to dilute existing shareholders to maintain the appearance of a strong balance sheet.
The real concern is that Ambac's collapse could reignite fears about counterparty risk, and that traders could again stop trading. Illiquid markets exacerbate pricing pressures, induce margin calls and can eventually lead to situations like the Bear Stearns run on the bank.
As the economy weakens, the value of securities dependent on mortgage payments will continue to erode. Short of outright nationalization of the mortgage market, no amount of government intervention will change this fact. The credit unwind is well underway and will continue, despite hopes the worst is over.
Reprinted by Permission copy write 2008 Minyanville Publishing and Multimedia
Ambac Financial (ABK) reminded investors all is still not well in the credit markets.
According to The Wall Street Journal, the bond insurer's $1.7 billion first quarter net loss was eight times greater than The Street's estimates. Notably, the company said $1 billion of its shortfall stemmed from relatively straightforward mortgage-backed securities, not complex collateralized debt obligations.
That analysts vastly underestimated Ambac's woes indicates that transparency in credit risk is still fuzzy. The reliability of the Bernanke Put has emboldened investors to shrug off what would have only months ago set off a panic. A reasonable assessment of the situation, given the extent to which the Federal Reserve and Treasury Department have proven willing to step in to support markets. Unfortunately, this crutch ignores economic reality.
The value of mortgage-backed securities is based primarily on the likelihood of borrowers making payments on the underlying loans. That cash flow is drying up as mortgage delinquencies continue to rise and falling home prices prices further depress the value of the bonds. Persistent economic weakness means these conditions will worsen.
Investors seem to be gingerly testing the hypothesis that the credit market can survive without Ambac, and maybe without its larger cousin MBIA (MBI).
Recall, however, the Fed's rationale for saving Bear Stearns (BSC). Bear's role in the multi-trillion credit derivatives market -- not its absolute size -- was the reason for the bailout. The term "counterparty risk" became a household term and the Fed feared a systemic failure if Bear were allowed to collapse on its own terms.
When Bear started falling apart, markets feared positions reliant on the solvency of entities on the other side of the transaction would lose their value. If a counterparty doesn't pick up the phone to honor its commitment, the trade is worthless.
Investors have been placated recently by loss provisions at investment banks like Merrill Lynch (MER) and Goldman Sachs (GS) for their exposure to MBIA and Ambac. This sentiment misses the point.
The risk is not simply that Ambac goes under and a few billion in additional equity gets wiped off the books of some Wall Street firms. Most have already proven willing and able to dilute existing shareholders to maintain the appearance of a strong balance sheet.
The real concern is that Ambac's collapse could reignite fears about counterparty risk, and that traders could again stop trading. Illiquid markets exacerbate pricing pressures, induce margin calls and can eventually lead to situations like the Bear Stearns run on the bank.
As the economy weakens, the value of securities dependent on mortgage payments will continue to erode. Short of outright nationalization of the mortgage market, no amount of government intervention will change this fact. The credit unwind is well underway and will continue, despite hopes the worst is over.
Reprinted by Permission copy write 2008 Minyanville Publishing and Multimedia
Wednesday, April 23, 2008
Microsoft, Yahoo Exchange Barbs
This post first appeared on Minyanville.
If Yahoo (YHOO) and Microsoft (MSFT) can't kiss and make up, agree on a price and move forward together, it's time to call off the wedding.
After yesterday's closing bell, Yahoo reported strong earnings numbers for the first quarter, but failed to sway Microsoft to up its takeover bid:
- Net income rose to $542 million or $0.37 per share, up from $142 million or $0.10 per share a year ago.
- Revenue increased to $1.8 billion, up 9% from last year.
- Ad-related growth jumped 18%, but international revenue grew only 7%.
Despite the positive results, The Wall Street Journal reports the war of the words continued between Yahoo CEO Jerry Yang and Microsoft boss Steve Balmer. In defiance of the software giant's offer, Yang said, "The quarter's results underscore the fact that our strategy and investments are beginning to pay off. Our board and management are committed to choosing a path to maximize shareholder value and will not enter into any transaction that does not recognize the full value of this company."
Balmer wasn't impressed. He reiterated that Microsoft will not up its bid. "We know what Yahoo's worth. $44 billion is a lot of money. [We are] prepared to move forward alone without Yahoo."
Many analysts believe if it continues to be rebuffed, Microsoft will take its offer off the table or simply lower the price. Others, perhaps impressed by Yahoo's obstinacy, are convinced Balmer will need to sweeten the deal to get it done. Three weeks ago Microsoft gave Yahoo a deadline for consideration of its takeover bid. Yang and the rest of the board have until Saturday to make their decision.
Tensions have risen to a point where any takeover -- even one at a mutually agreed upon price -- would be effectively hostile. Integrating the two companies would be a massive logistical undertaking; doing so with residual bad blood from a messy takeover battle would be a strategist's nightmare.
Systems, processes and corporate cultures would need to be merged in order for Microsoft to realize a near-term benefit to its investment. Even in the long run, embittered former Yahoo employees may defect or contribute less to their new bosses.
The Internet company has witnessed mild resurgence and newfound unity in the face of being swallowed whole. But if Microsoft calls its bluff and walks away, Yahoo's shareholders may end up wishing they hadn't been so greedy
Reprinted by Permission copy write 2008 Minyanville Publishing and Multimedia
Tuesday, April 22, 2008
Private Equity Eyes Struggling Banks
This post first appeared on Minyanville.
Mounting losses have forced financial institutions to shed pieces of themselves in order to remain afloat. Dealmakers, meanwhile, smell blood in the water.
Despite mounting data demonstrating financial woes are far from over, private equity firms are beginning to nibble at pieces of troubled banks.
National City (NCC), who yesterday announced that it sold $7 billion in equity to shore up its balance sheet, is the latest in a string of banks to raise capital in this manner. Two weeks ago, Washington Mutual (WM) received $7 billion from private equity firm TPG and others. Last Monday, Wachovia (WB) also took in $7 billion to shield it from future writedowns.
The Wall Street Journal reports private equity firm Corsair Capital LLC bought $985 million of National City's equity offering. Although the stock plunged 28% yesterday to $6.03, Corsair was able to book a paper gain since it bought in at just $5 per share.
These firms are hoping the fire sale prices allow them to ride out near-term trouble so sizeable returns on investment can be realized down the line.
Minyan Peter, however, doubts the wisdom of their bets. He thinks recent investments in private equity is "panic buying," saying:
With most of their current portfolio deals going south, and the prospect of any new leveraged buyout deals more than remote, firms are having to transform themselves quickly into vulture mode. And with many private equity firms now public, suddenly quarter earnings pressure means something to these guys. If you get paid "transaction fees" for doing a deal -- whether it turns out to be good or bad -- you do it because it at least shows you are out there and it buys you time to figure out what your business model is going to be in the future.
Equity markets seem determined to call a bottom in financial stocks. Although the outlook is cloudy at best, investors are counting on recent government intervention to spur economic activity in the second half of the year. With a little luck, bold investments may pay off in the future.
But those intrepid enough to wade into the market would be wise to remember billionaire investor Joe Lewis who last year tried to call a bottom in Bear Stearns (BSC). He lost nearly his entire investment - a mere billion dollars.
Reprinted by Permission copy write 2008 Minyanville Publishing and Multimedia
Mounting losses have forced financial institutions to shed pieces of themselves in order to remain afloat. Dealmakers, meanwhile, smell blood in the water.
Despite mounting data demonstrating financial woes are far from over, private equity firms are beginning to nibble at pieces of troubled banks.
National City (NCC), who yesterday announced that it sold $7 billion in equity to shore up its balance sheet, is the latest in a string of banks to raise capital in this manner. Two weeks ago, Washington Mutual (WM) received $7 billion from private equity firm TPG and others. Last Monday, Wachovia (WB) also took in $7 billion to shield it from future writedowns.
The Wall Street Journal reports private equity firm Corsair Capital LLC bought $985 million of National City's equity offering. Although the stock plunged 28% yesterday to $6.03, Corsair was able to book a paper gain since it bought in at just $5 per share.
These firms are hoping the fire sale prices allow them to ride out near-term trouble so sizeable returns on investment can be realized down the line.
Minyan Peter, however, doubts the wisdom of their bets. He thinks recent investments in private equity is "panic buying," saying:
With most of their current portfolio deals going south, and the prospect of any new leveraged buyout deals more than remote, firms are having to transform themselves quickly into vulture mode. And with many private equity firms now public, suddenly quarter earnings pressure means something to these guys. If you get paid "transaction fees" for doing a deal -- whether it turns out to be good or bad -- you do it because it at least shows you are out there and it buys you time to figure out what your business model is going to be in the future.
Equity markets seem determined to call a bottom in financial stocks. Although the outlook is cloudy at best, investors are counting on recent government intervention to spur economic activity in the second half of the year. With a little luck, bold investments may pay off in the future.
But those intrepid enough to wade into the market would be wise to remember billionaire investor Joe Lewis who last year tried to call a bottom in Bear Stearns (BSC). He lost nearly his entire investment - a mere billion dollars.
Reprinted by Permission copy write 2008 Minyanville Publishing and Multimedia
Monday, April 21, 2008
Bank of England Takes on Mortgage Debt
The following post first appeared on Minyanville.
Mimicking recent moves by the Federal Reserve, the Bank of England announced today a plan to trade $100 billion in government Treasury bills for mortgage-backed securities.
The Wall Street Journal reports the lending facility will allow British banks to swap AAA-rated assets backed by U.K. and European mortgages for government bonds. Although it will also accept highly rated credit card debt, the central bank said specifically it won't take securities backed by U.S. mortgages.
Similar to the Fed's Term Auction Facility and Term Securities Lending Facility, the Bank of England claims the asset swaps won't result in increased credit exposure for the central bank itself. If securities are downgraded, banks must replace them with new AAA-rated assets. Unlike the Fed's swap arrangements -- which last only 28 days at a time -- the new British facility will last one year and is renewable for up to three.
Banks in the U.K. have been slower to write down asset values than U.S. financial institutions, partly because British borrowers have kept up on mortgage payments better than their American counterparts.
Although the move may alleviate concerns of big bank insolvency, it's unlikely to jumpstart credit markets. The Bank of England will learn what the Fed has learned: Handing banks like Citibank (C), Bank of America (BAC), and Merrill Lynch (MER) taxpayer money in exchange for questionable mortgage debt doesn't mean they'll turn around and lend it out.
The capital markets operate on trust, a characteristic noticeably missing from today's environment. Whether they're lending to a grocery store, homeowner or another bank, financial institutions don't offer loans without the expectation of being repaid - unless of course they're able to offload the risk to another party. That ability, so prevalent during the credit boom, is now gone.
Faced with the choice of providing loans to borrowers increasingly struggling under the weight of inflation and an uncertain employment outlook, financial firms are keeping capital close to home. Recent fears about data integrity in the bank-to-bank lending markets evidence just how little trust currently exists in the system.
Market turmoil resolves itself as a function of either time or price. Central banks are hoping to resolve the credit crisis by removing the price side of that equation. Unfortunately for them, the market was a long time in creating this problem. It will be a long time fixing it as well.
Reprinted by Permission copy write 2008 Minyanville Publishing and Multimedia
Mimicking recent moves by the Federal Reserve, the Bank of England announced today a plan to trade $100 billion in government Treasury bills for mortgage-backed securities.
The Wall Street Journal reports the lending facility will allow British banks to swap AAA-rated assets backed by U.K. and European mortgages for government bonds. Although it will also accept highly rated credit card debt, the central bank said specifically it won't take securities backed by U.S. mortgages.
Similar to the Fed's Term Auction Facility and Term Securities Lending Facility, the Bank of England claims the asset swaps won't result in increased credit exposure for the central bank itself. If securities are downgraded, banks must replace them with new AAA-rated assets. Unlike the Fed's swap arrangements -- which last only 28 days at a time -- the new British facility will last one year and is renewable for up to three.
Banks in the U.K. have been slower to write down asset values than U.S. financial institutions, partly because British borrowers have kept up on mortgage payments better than their American counterparts.
Although the move may alleviate concerns of big bank insolvency, it's unlikely to jumpstart credit markets. The Bank of England will learn what the Fed has learned: Handing banks like Citibank (C), Bank of America (BAC), and Merrill Lynch (MER) taxpayer money in exchange for questionable mortgage debt doesn't mean they'll turn around and lend it out.
The capital markets operate on trust, a characteristic noticeably missing from today's environment. Whether they're lending to a grocery store, homeowner or another bank, financial institutions don't offer loans without the expectation of being repaid - unless of course they're able to offload the risk to another party. That ability, so prevalent during the credit boom, is now gone.
Faced with the choice of providing loans to borrowers increasingly struggling under the weight of inflation and an uncertain employment outlook, financial firms are keeping capital close to home. Recent fears about data integrity in the bank-to-bank lending markets evidence just how little trust currently exists in the system.
Market turmoil resolves itself as a function of either time or price. Central banks are hoping to resolve the credit crisis by removing the price side of that equation. Unfortunately for them, the market was a long time in creating this problem. It will be a long time fixing it as well.
Reprinted by Permission copy write 2008 Minyanville Publishing and Multimedia
Friday, April 18, 2008
Natural Gas Prices Newest Consumer Headache
The following post first appeared on Minyanville.
Reeling from record high gas prices, falling home values and an uncertain employment outlook, American consumers may be forced to open up a new front in the war on consumption. The cost of natural gas, which generates around 20% of U.S. electricity, is approaching historical levels of its own
A report this morning in The Wall Street Journal outlines the global supply-demand outlook for natural gas, which has risen 93% since last August (see chart below). Its price usually moves in similar patterns to that of crude, but until very recently has lagged oil's big move (see second chart).
Click to enlarge image
Click to enlarge image
Surging global demand for power is partly to blame for higher prices, but on its own doesn’t explain the recent jump. The ability to transport liquefied natural gas, or LNG, means it’s no longer just a regional commodity. According to The Journal, LNG can be moved in a fraction of the space required to transport it in conventional form, making it easy to ship all over the world. Countries thirsty for LNG simply pay a higher price for it to arrive at their docks.
I spoke with a hedge fund energy analyst who gave me the following rundown of why prices have risen now, when these fundamentals have been in place for a number of years.
LNG, he explained, sells in Asia for nearly twice what it does in the U.S. Since producers are more inclined to sell for the highest price, U.S. imports will likely stay at record lows. The bid in Japan and South Korea should remain strong, as both countries struggle with problematic nuclear power plants that must be supplemented by gas-fired generation.
Coal shortages at many American utilities like Exelon Corp (EXC), Ameren (AEE), Dynergy Inc (DYN) and PPL Corp (PPL) will force them to run gas plants to preserve coal stockpiles for the summer, even if it's more costly to do so. Compounding the issue, water shortages in key areas of the country will make coal and nuclear plants less attractive since they use far more water than do gas generators. Plans for a number of coal burning plants have been canceled recently, further inflating the demand for LNG.
Higher prices would benefit natural gas producers like Anadarko Petroleum (APC), Sandridge Energy (SD), Equitable Resources (EQT) and Forest Oil (FST).
Looking into the future, Europe in 2012 will stop offering free carbon dioxide permits for coal burning power plants. Operators are likely to shutter these dirty generators and switch over to natural gas. If the U.S. Congress passes carbon emission restrictions, demand for clean electricity will likewise take off.
Historically speaking, gas is currently cheap relative to crude. But domestic natural gas storage levels are below average, and forecasts of a hotter than normal summer and active hurricane season this fall could force prices upwards.
None of this happened overnight, so many wonder why natural gas is just now beginning to catch up with crude prices. The analyst I spoke with said it’s a culmination of the above factors and cautioned that prices won’t reflect events until they actually happen.
If there’s one thing Americans don’t need, its higher prices on something they aren't prepared to live without. Lights and air conditioning on hot summer nights certainly fit the bill.
Reprinted by Permission copy write 2008 Minyanville Publishing and Multimedia
Reeling from record high gas prices, falling home values and an uncertain employment outlook, American consumers may be forced to open up a new front in the war on consumption. The cost of natural gas, which generates around 20% of U.S. electricity, is approaching historical levels of its own
A report this morning in The Wall Street Journal outlines the global supply-demand outlook for natural gas, which has risen 93% since last August (see chart below). Its price usually moves in similar patterns to that of crude, but until very recently has lagged oil's big move (see second chart).
Click to enlarge image
Click to enlarge image
Surging global demand for power is partly to blame for higher prices, but on its own doesn’t explain the recent jump. The ability to transport liquefied natural gas, or LNG, means it’s no longer just a regional commodity. According to The Journal, LNG can be moved in a fraction of the space required to transport it in conventional form, making it easy to ship all over the world. Countries thirsty for LNG simply pay a higher price for it to arrive at their docks.
I spoke with a hedge fund energy analyst who gave me the following rundown of why prices have risen now, when these fundamentals have been in place for a number of years.
LNG, he explained, sells in Asia for nearly twice what it does in the U.S. Since producers are more inclined to sell for the highest price, U.S. imports will likely stay at record lows. The bid in Japan and South Korea should remain strong, as both countries struggle with problematic nuclear power plants that must be supplemented by gas-fired generation.
Coal shortages at many American utilities like Exelon Corp (EXC), Ameren (AEE), Dynergy Inc (DYN) and PPL Corp (PPL) will force them to run gas plants to preserve coal stockpiles for the summer, even if it's more costly to do so. Compounding the issue, water shortages in key areas of the country will make coal and nuclear plants less attractive since they use far more water than do gas generators. Plans for a number of coal burning plants have been canceled recently, further inflating the demand for LNG.
Higher prices would benefit natural gas producers like Anadarko Petroleum (APC), Sandridge Energy (SD), Equitable Resources (EQT) and Forest Oil (FST).
Looking into the future, Europe in 2012 will stop offering free carbon dioxide permits for coal burning power plants. Operators are likely to shutter these dirty generators and switch over to natural gas. If the U.S. Congress passes carbon emission restrictions, demand for clean electricity will likewise take off.
Historically speaking, gas is currently cheap relative to crude. But domestic natural gas storage levels are below average, and forecasts of a hotter than normal summer and active hurricane season this fall could force prices upwards.
None of this happened overnight, so many wonder why natural gas is just now beginning to catch up with crude prices. The analyst I spoke with said it’s a culmination of the above factors and cautioned that prices won’t reflect events until they actually happen.
If there’s one thing Americans don’t need, its higher prices on something they aren't prepared to live without. Lights and air conditioning on hot summer nights certainly fit the bill.
Reprinted by Permission copy write 2008 Minyanville Publishing and Multimedia
Thursday, April 17, 2008
Libor Pops on Transparency Fears
We noted this morning LIBOR's reliability has come under scrutiny as some traders fear banks are being less than truthful in reporting their borrowing costs. Now the Wall Street Journal is reporting the British Bankers' Association is accelerating its inquiry into the accuracy of data provided about bank-to-bank lending rates.
On Briefing.com, a report indicated "those in the know" claim fears about the integrity of LIBOR are groundless.Yet, the basis for which trillions of dollars in fixed income securities jumped today by the biggest amount since last August.
With a twist of irony, the gauge that monitors fear levels within the banking community is now reacting to fears about the reliability of its own data. This serves as a stark reminder of the systemic risks the credit crisis still poses to the financial system.
Earnings may beat sandbagged estimates, but risk, as Minyanville's Mr. Practical is apt to say, is high.
On Briefing.com, a report indicated "those in the know" claim fears about the integrity of LIBOR are groundless.Yet, the basis for which trillions of dollars in fixed income securities jumped today by the biggest amount since last August.
With a twist of irony, the gauge that monitors fear levels within the banking community is now reacting to fears about the reliability of its own data. This serves as a stark reminder of the systemic risks the credit crisis still poses to the financial system.
Earnings may beat sandbagged estimates, but risk, as Minyanville's Mr. Practical is apt to say, is high.
All Eyes on Google
The following post first appeared on Minyanville.
Investors will be eyeing Google (GOOG) today after the closing bell, as the online search specialist reports first quarter earnings. Analysts are expecting net income of $4.52 per share, 22.8% higher than the same period a year ago. Revenue is expected to come in at $3.61 billion, up 6.5% from the fourth quarter of 2007.
Most companies would kill for that sort of expansion given current economic conditions, but Google's growth clip is off significantly from previous levels. First quarter earnings in 2007 were a whopping 60.6% higher than 2006 numbers, which were almost twice that of 2005.
According to the company, Google generates 44% of its revenue from overseas. Investors should welcome this trend, as online growth rates begin to cool in the U.S. Abroad, however, Internet use is still expanding rapidly.
In recent months, much has been made about Google's relative susceptibility to the continuing economic slowdown. The company doesn't provide formal earnings guidance, and according to The Wall Street Journal analysts rely heavily on data compiled by ComScore, a compiler of online clicking habits. On Tuesday, ComScore reported that, compared to the fourth quarter of last year, first quarter clicks on Google search ads declined 9.3%.
Some investors fear Google has saturated its primary market -- online search --- and is now more exposed to oscillations in economic activity. Small and medium-sized businesses are already scaling back advertising campaigns, eating into Google's bottom line. CEO Eric Schmidt maintains his company's results aren't closely tied to greater economic strength or weakness. Meanwhile, skeptics accuse the company of failing to generate revenue from its forays into other markets, like online document sharing, email and word processing applications.
Google's challenge will be to find ways to grow during challenging economic times, especially if Microsoft (MSFT) ends up succeeding in its attempt to swallow Yahoo (YHOO). Google best gear up for a fight.
Reprinted by Permission copy write 2008 Minyanville Publishing and Multimedia
Investors will be eyeing Google (GOOG) today after the closing bell, as the online search specialist reports first quarter earnings. Analysts are expecting net income of $4.52 per share, 22.8% higher than the same period a year ago. Revenue is expected to come in at $3.61 billion, up 6.5% from the fourth quarter of 2007.
Most companies would kill for that sort of expansion given current economic conditions, but Google's growth clip is off significantly from previous levels. First quarter earnings in 2007 were a whopping 60.6% higher than 2006 numbers, which were almost twice that of 2005.
According to the company, Google generates 44% of its revenue from overseas. Investors should welcome this trend, as online growth rates begin to cool in the U.S. Abroad, however, Internet use is still expanding rapidly.
In recent months, much has been made about Google's relative susceptibility to the continuing economic slowdown. The company doesn't provide formal earnings guidance, and according to The Wall Street Journal analysts rely heavily on data compiled by ComScore, a compiler of online clicking habits. On Tuesday, ComScore reported that, compared to the fourth quarter of last year, first quarter clicks on Google search ads declined 9.3%.
Some investors fear Google has saturated its primary market -- online search --- and is now more exposed to oscillations in economic activity. Small and medium-sized businesses are already scaling back advertising campaigns, eating into Google's bottom line. CEO Eric Schmidt maintains his company's results aren't closely tied to greater economic strength or weakness. Meanwhile, skeptics accuse the company of failing to generate revenue from its forays into other markets, like online document sharing, email and word processing applications.
Google's challenge will be to find ways to grow during challenging economic times, especially if Microsoft (MSFT) ends up succeeding in its attempt to swallow Yahoo (YHOO). Google best gear up for a fight.
Reprinted by Permission copy write 2008 Minyanville Publishing and Multimedia
Libor's Integrity Called Into Question
The following post first appeared on Minyanville.
Scientific experiments use control factors as reference points from which all other measurements are taken. In the financial world, one of the most important of such constants is known as LIBOR, the London Interbank Offered Rate.
LIBOR measures the rate at which banks lend to one another. When banks become skittish and seek higher return for additional risk, LIBOR goes up. Conversely, LIBOR moves downward when fear abates and lending loosens up.
The spread (or difference) between LIBOR and virtually risk-free U.S. Treasuries measures the premium banks' demand to lend to other banks. In the past nine months, the spread between LIBOR and three-month Treasury yields has taken off.
Source: The Wall Street Journal
While many have argued the reasons and implications for LIBOR's wild swings, few have questioned the integrity of the data itself. Until now.
The Wall Street Journal reported yesterday that the group that oversees LIBOR, the British Bankers Association, or BBA, is starting to question the validity of the information it collects to determine each day's rate.
Each day, 16 of the world's largest banks, including Bank of America (BAC), JP Morgan (JPM) and HSBC (HBC), tell Reuters what it costs to borrow a "reasonable amount" in a designated currency. Reuters tosses out the highest and lowest quotes to negate the effect of outliers and arrives at an average bank-to-bank lending rate. The data is then disseminated around the world's financial markets.
LIBOR is used to set the terms of corporate debt, home loans, mortgage-backed securities and over $500 trillion in derivative contracts. It's the standard by which nearly all fixed income securities are measured. For example, subprime mortgages may cost a borrower 6.00% more than the LIBOR rate, whereas a well-capitalized corporation may pay only 0.50% above LIBOR on its highest rated debt.
According to The Journal's report, the BBA isn't sure its reporting banks are telling the truth. No specific allegations have been made, but some traders are concerned banks may be colluding or otherwise spreading misinformation to give the impression market conditions are better than they really are.
The implications -- if true -- are significant.
By some estimates, LIBOR may be underestimating the true cost of bank-to-bank borrowing by as much as 0.30%, a meaningful figure considering Tuesday's three-month Libor rate sat at just 2.72%.
The real losses stemming from a systemic adjustment to LIBOR would be trivial compared to the psychological effect such a correction would have on financial markets.
There's a growing belief the wider implications of the credit crunch, although extensive, can be quantified and priced into an individual stock or bond. We're now being told financial companies' share prices have so much bad news baked in, they can't conceivably go any lower.
This talk sounds comforting on the brink of recession and, according to some, the biggest financial crisis since the Great Depression. And while in the near term such a thesis may be true, any such assumption is purely speculation.
If LIBOR -- heretofore as reliable an index as the rising sun -- can't be accurately determined, the ability to reasonably value any asset is called into question. From the very top (LIBOR), to the very bottom (residential real estate), illiquidity and a lack of trust are rendering any concept of rational markets invalid.
Any analyst who proclaims financial companies are cheap, or have strong balance sheets, is at best taking a stab. If an index so universally accepted as LIBOR is called into question, what does that say about what the $70 billion in Level III assets sitting on Goldman Sachs' (GS)? Anyone proclaiming to know their actual value is simply guessing.
The concern over LIBOR may be nothing, or it may be the sort of issue that slowly turns from rumor into reality, not unlike recent events surrounding the collapse of Bear Stearns (BSC). But the fact that its integrity is even being called into question could mean banks are hiding something they really, really don't want anyone to know about.
Reprinted by Permission copy write 2008 Minyanville Publishing and Multimedia
Scientific experiments use control factors as reference points from which all other measurements are taken. In the financial world, one of the most important of such constants is known as LIBOR, the London Interbank Offered Rate.
LIBOR measures the rate at which banks lend to one another. When banks become skittish and seek higher return for additional risk, LIBOR goes up. Conversely, LIBOR moves downward when fear abates and lending loosens up.
The spread (or difference) between LIBOR and virtually risk-free U.S. Treasuries measures the premium banks' demand to lend to other banks. In the past nine months, the spread between LIBOR and three-month Treasury yields has taken off.
Source: The Wall Street Journal
While many have argued the reasons and implications for LIBOR's wild swings, few have questioned the integrity of the data itself. Until now.
The Wall Street Journal reported yesterday that the group that oversees LIBOR, the British Bankers Association, or BBA, is starting to question the validity of the information it collects to determine each day's rate.
Each day, 16 of the world's largest banks, including Bank of America (BAC), JP Morgan (JPM) and HSBC (HBC), tell Reuters what it costs to borrow a "reasonable amount" in a designated currency. Reuters tosses out the highest and lowest quotes to negate the effect of outliers and arrives at an average bank-to-bank lending rate. The data is then disseminated around the world's financial markets.
LIBOR is used to set the terms of corporate debt, home loans, mortgage-backed securities and over $500 trillion in derivative contracts. It's the standard by which nearly all fixed income securities are measured. For example, subprime mortgages may cost a borrower 6.00% more than the LIBOR rate, whereas a well-capitalized corporation may pay only 0.50% above LIBOR on its highest rated debt.
According to The Journal's report, the BBA isn't sure its reporting banks are telling the truth. No specific allegations have been made, but some traders are concerned banks may be colluding or otherwise spreading misinformation to give the impression market conditions are better than they really are.
The implications -- if true -- are significant.
By some estimates, LIBOR may be underestimating the true cost of bank-to-bank borrowing by as much as 0.30%, a meaningful figure considering Tuesday's three-month Libor rate sat at just 2.72%.
The real losses stemming from a systemic adjustment to LIBOR would be trivial compared to the psychological effect such a correction would have on financial markets.
There's a growing belief the wider implications of the credit crunch, although extensive, can be quantified and priced into an individual stock or bond. We're now being told financial companies' share prices have so much bad news baked in, they can't conceivably go any lower.
This talk sounds comforting on the brink of recession and, according to some, the biggest financial crisis since the Great Depression. And while in the near term such a thesis may be true, any such assumption is purely speculation.
If LIBOR -- heretofore as reliable an index as the rising sun -- can't be accurately determined, the ability to reasonably value any asset is called into question. From the very top (LIBOR), to the very bottom (residential real estate), illiquidity and a lack of trust are rendering any concept of rational markets invalid.
Any analyst who proclaims financial companies are cheap, or have strong balance sheets, is at best taking a stab. If an index so universally accepted as LIBOR is called into question, what does that say about what the $70 billion in Level III assets sitting on Goldman Sachs' (GS)? Anyone proclaiming to know their actual value is simply guessing.
The concern over LIBOR may be nothing, or it may be the sort of issue that slowly turns from rumor into reality, not unlike recent events surrounding the collapse of Bear Stearns (BSC). But the fact that its integrity is even being called into question could mean banks are hiding something they really, really don't want anyone to know about.
Reprinted by Permission copy write 2008 Minyanville Publishing and Multimedia
Wednesday, April 16, 2008
More Merrill Writedowns
This post first appeared on Minyanville.
Merrill Lynch (MER) will announce tomorrow it's still reeling from bad subprime bets.
The Wall Street Journal reports Merrill will take an additional $6 to $8 billion in writedowns on mortgage-related securities and lay off 10% to 15% of its workforce. This brings the firm's total writedowns to $30 billion, having reduced its subprime exposure to $7.5 billion, down from $40.9 billion in June. The announcement is expected during tomorrow's first quarter earnings release.
Merrill has raised $12.8 billion in capital since last fall, but its leverage remains high - at 31.9 to one. According to Professor Sedacca, this isn't a level befitting a bank supposedly going through a deleveraging cycle.
Merrill's reputation has been severely damaged. The Securities and Exchange Commission is investigating whether management should have divulged the extent of the company's subprime exposure sooner. John Thain, the new CEO, says the company won't need to raise capital again and will operate with renewed focus on risk management.
Throughout 2006 and 2007, Merrill topped The Street in issuance of collateralized debt obligations (CDO), even as demand for new deals waned. The lack of buyers forced Merrill to hold a greater number of assets on its own balance sheet. As the value of the securities began to slide, Merrill was left holding the bag.
In a last ditch effort to stem its losses, Merrill entered into agreements to hedge its CDO book. It picked the wrong counterparties. Trades with poorly capitalized bond insurers ACA Financial and XL Capital forced Merrill to take big hits when the two firms became insolvent late last year. Lehman Brothers (LEH), by contrast, took its lumps over trading losses with XL Capital in the first half of 2007. Merrill still has the principal portion of around $5 billion in CDO securities hedged with struggling bond insurer MBIA (MBI).
Investors hope Merrill is on the right track. Despite ongoing turmoil in the capital markets, many analysts remain confident investment banks have seen the worst of the credit crunch. This morning, Punk Ziegel analyst Richard Bove said many financial companies are oversold. Bove believes losses are simply accounting adjustments with little effect on cash flow. He says the long-term outlook is good for most banks.
This sentiment is gaining steam on Wall Street, as investors hope earnings season will air the last of the laundry soiled by subprime slime. But hope, as Toddo likes to say, is not a viable investment strategy.
Reprinted by Permission copy write 2008 Minyanville Publishing and Multimedia
Merrill Lynch (MER) will announce tomorrow it's still reeling from bad subprime bets.
The Wall Street Journal reports Merrill will take an additional $6 to $8 billion in writedowns on mortgage-related securities and lay off 10% to 15% of its workforce. This brings the firm's total writedowns to $30 billion, having reduced its subprime exposure to $7.5 billion, down from $40.9 billion in June. The announcement is expected during tomorrow's first quarter earnings release.
Merrill has raised $12.8 billion in capital since last fall, but its leverage remains high - at 31.9 to one. According to Professor Sedacca, this isn't a level befitting a bank supposedly going through a deleveraging cycle.
Merrill's reputation has been severely damaged. The Securities and Exchange Commission is investigating whether management should have divulged the extent of the company's subprime exposure sooner. John Thain, the new CEO, says the company won't need to raise capital again and will operate with renewed focus on risk management.
Throughout 2006 and 2007, Merrill topped The Street in issuance of collateralized debt obligations (CDO), even as demand for new deals waned. The lack of buyers forced Merrill to hold a greater number of assets on its own balance sheet. As the value of the securities began to slide, Merrill was left holding the bag.
In a last ditch effort to stem its losses, Merrill entered into agreements to hedge its CDO book. It picked the wrong counterparties. Trades with poorly capitalized bond insurers ACA Financial and XL Capital forced Merrill to take big hits when the two firms became insolvent late last year. Lehman Brothers (LEH), by contrast, took its lumps over trading losses with XL Capital in the first half of 2007. Merrill still has the principal portion of around $5 billion in CDO securities hedged with struggling bond insurer MBIA (MBI).
Investors hope Merrill is on the right track. Despite ongoing turmoil in the capital markets, many analysts remain confident investment banks have seen the worst of the credit crunch. This morning, Punk Ziegel analyst Richard Bove said many financial companies are oversold. Bove believes losses are simply accounting adjustments with little effect on cash flow. He says the long-term outlook is good for most banks.
This sentiment is gaining steam on Wall Street, as investors hope earnings season will air the last of the laundry soiled by subprime slime. But hope, as Toddo likes to say, is not a viable investment strategy.
Reprinted by Permission copy write 2008 Minyanville Publishing and Multimedia
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