Wednesday, November 26, 2008

How Borders Group Returned Value to Nobody


The poster child of poor capital management might just be Borders Group.

Borders, which runs one of our favorite book stores in the country (Union Square in San Francisco) and goes by the ticker BGP, is the now-beleaguered bookseller spun out of K-mart long ago in happier times.

Borders is also one of those companies that so desperately wanted to make Wall Street’s Finest happy—not to mention its own shareholders—that it spent all its cash, and more, to buy back stock.

“Returning value to shareholders,” it was called back in February 2005, when Borders management proudly announced a $250 million share repurchase plan, and the stock price was $25.

Wall Street’s Finest were, of course, delighted, and the company received the kind of “attaboys” that caused a long list of management teams to pursue the greatest value-destroying fad in American business history. In this case, it crippled a once wonderful chain of bookstores:

“The stock’s cheap, in our opinion, and the company seems to agree,” [hedge fund manager Bill] Ackman said last week at the Value Investing Congress in New York. Borders…has “one of the most aggressive share-repurchase programs I’ve ever seen.”

—Bloomberg LP, November 2006

In the end, of course, that repurchase program was far too aggressive.

Five years ago Borders had a $1.9 billion market value and more cash than debt on its books. Today, Borders has a $50 million market value (yes, that’s right, $50 million) and more debt than cash. Like, $525 million in debt against $38 million in cash.

Oh, and the stock’s current price? $1.00 a share.

“Returning value to shareholders?” No. “Mortgaging the future,” at best. “Destroying the company,” at worst.


Jeff Matthews
I Am Not Making This Up


© 2008 NotMakingThisUp, LLC

The content contained in this blog represents the opinions of Mr. Matthews.
Mr. Matthews also acts as an advisor and clients advised by Mr. Matthews may hold either long or short positions in securities of various companies discussed in the blog based upon Mr. Matthews’ recommendations. This commentary in no way constitutes investment advice. It should never be relied on in making an investment decision, ever. Nor are these comments meant to be a solicitation of business in any way: such inquiries will not be responded to. This content is intended solely for the entertainment of the reader, and the author.

Monday, November 24, 2008

Letter from Las Vegas


Clever advertising notwithstanding, it turns out that what happened in Vegas not only didn’t stay there, but the consequences have taken down nearly every investment bank in America, caused bank runs in England, wiped out Iceland’s entire banking system, and helped set back the market value of the S&P 500 by a decade .

But what about Las Vegas itself?

What is happening in a city that once advertised itself, essentially, as a place to come and cheat on your wife?

We received the following report from a regular visitor to the various trade shows that make Las Vegas their home, and thought it worth passing on to our readers.


When I visit Las Vegas I make my way to the airport exit and enter a line to get a taxi to the hotel.

On every occasion prior to tonight I have encountered a line of people numbering in the hundreds (sometimes several hundred) who wind their way up and down four rows that stretch up and down a wide sidewalk outside the airport exit.

Not this time. There were perhaps three dozen people in line. No need for four rows. One was enough. Instead of the usual 5 to 10 minute wait (I was always amazed at how efficient they were hustling 100s of people into taxis and out to the casinos), I was in a taxi within a minute.

The taxi driver, a guy in his 30s from Brazil who had been in Vegas for 10 years, told me that the volume of people he sees is down 30% compared to last year. And the people who come don't leave their hotel. They aren't going out at night. So his business at the hotels is down.

How is the real estate market right now in Las Vegas? He said it’s great if you want to buy a house at a good price. He bought 8 years ago for $170,000, says his house is now worth $230,000, but three years ago it was worth $450,000. That's when his wife wanted to sell and move into an apartment, and buy a house back home in Brazil. But instead they refinanced, taking out $50,000 cash. Now, “It’s okay as long as I work and my wife works and we can pay our bills, and better if we can save a little.”

The hotel is another story.

Usually, when I book a room in Las Vegas it’s $79-99 a night at the Luxor through Orbitz. I can walk to the Venetian where the conferences are and where the rooms normally cost $300-400. This time I booked at the Venetian. Reason? It cost $120/night. But that's not the end of the story.

I get to the registration desk and the clerk asks if I want to be upgraded to a suite. I tell him no, I’ll just take the room I booked. He then registers me on the computer, hands me my key with a map of the hotel and tells me he gave me a suite anyway.


What happens in Vegas is happening everywhere!



Jeff Matthews
I Am Not Making This Up


© 2008 NotMakingThisUp, LLC

The content contained in this blog represents the opinions of Mr. Matthews.
Mr. Matthews also acts as an advisor and clients advised by Mr. Matthews may hold either long or short positions in securities of various companies discussed in the blog based upon Mr. Matthews’ recommendations. This commentary in no way constitutes investment advice. It should never be relied on in making an investment decision, ever. Nor are these comments meant to be a solicitation of business in any way: such inquiries will not be responded to. This content is intended solely for the entertainment of the reader, and the author.

Saturday, November 22, 2008

Is Buffett Worried? Part II: “It’s Not Personal, Sonny.”


Finally, Berkshire Looks Undervalued
By ANDREW BARY

Ignore misplaced skepticism -- Buffet's baby is finally cheap again.

—Barron’s, November 24, 2008


Well, now we know.

The culprit in Berkshire Hathaway’s recent fall from grace—at least in the credit default swap market—may just be the very firm Warren Buffett himself invested in just two months ago.

That firm would be Goldman Sachs.

According to this week’s Barron’s:

The Street talk is that Berkshire's counterparties, believed to include Goldman, are worried about their Berkshire financial exposure and are trying to hedge that by buying protection in the credit-default swap market.

Barron’s goes on to point out what we alerted readers here on Thursday:

The cost of that protection last week hit five percentage points -- up from a half-point earlier this year, and seemingly absurd for a company that still deserves a triple-A credit rating. Similar protection for Chubb (CB), which has a lower credit rating, costs less than a percentage point.

What makes Barron’s speculation particularly juicy is the fact that Warren Buffett is an extremely loyal person.


Buffett almost never replaces the CEOs of the 76-plus Berkshire companies, short of government pressure in the case of General Re; never sells what he calls Berkshire’s “permanent” investments in the likes of Coke and Washington Post, no matter how high the price or how much their prospects have change; and even hangs on to once-great companies such as Fruit of the Loom despite the near-total evaporation of their competitive “moat” and the inevitable decay in their business.

One wonders, if the Barron’s speculation is true, how Buffett feels about Goldman Sachs’ own peculiar notion of “loyalty”…which is to say more of the Michael Corleone type—“It’s not personal, Sonny. It’s strictly business”—than of his own.



Jeff Matthews
I Am Not Making This Up

© 2008 NotMakingThisUp, LLC

The content contained in this blog represents the opinions of Mr. Matthews.
Mr. Matthews also acts as an advisor and clients advised by Mr. Matthews may hold either long or short positions in securities of various companies discussed in the blog based upon Mr. Matthews’ recommendations. This commentary in no way constitutes investment advice. It should never be relied on in making an investment decision, ever. Nor are these comments meant to be a solicitation of business in any way: such inquiries will not be responded to. This content is intended solely for the entertainment of the reader, and the author.

Thursday, November 20, 2008

Is Buffett Worried? No, but Somebody Is


Warren Buffett professes never to worry about a position, even if it’s down 50%.

Since he never strays outside his famous “circle of competence,” except maybe for that US Air investment a few years back, Buffett figures he knows more than the market thinks it does, manic-depressive as that market tends to be. “You use the market to serve you and not to instruct you,” he told one young investor from India at the Berkshire annual meeting this year.

So the odds are good that Buffett himself is not breaking a sweat over his own stock’s 40% decline since his late September cavalry-to-the-rescue investment in Goldman Sachs.

After all, who knows more about Berkshire than Warren Buffett?

Still, somebody out there is indeed breaking a sweat about Berkshire, and not just the company's stock. Credit default swaps in Berkshire—insurance against a default by Berkshire—have been climbing ever since the market began its September swoon, and suddenly spiked in the last few days.

Specifically, the Berkshire 5-year CDS began the month of September at about 100, climbed to just over 250 a week ago, and cruised to 481.7 yesterday, according to our Bloomberg. (This means somebody was paying $481,700 annually to insure against a default on $10 million of debt for five years.)


Why does this matter?

Well, credit defaults swaps have been an excellent early warning indicator of trouble at nearly every financial company that now no longer exists in their previous forms. And the reason is quite simple: companies doing business with highly leveraged financials can buy credit default swaps in those financials in order to hedge the risk of a collapse.

This is exactly what happened with AIG. According to the recent, excellent Wall Street Journal account of AIG’s final days, Goldman Sachs reportedly was buying credit default swaps in AIG to hedge their counterparty risk well before that firm hit the wall. So by keeping an eye on movements in credit default swaps, shareholders get a good look at where the bond market thinks the company is going.

And in the case of Berkshire, the bond market is worried.

Most strikingly, Triple A-rated Berkshire’s CDS are trading higher than several considerably lesser lights in the insurance realm, including Allstate (301.7), Progressive (252.3) and Odyssey Re (158.3).

Which begs the question, who is buying credit default swaps in Berkshire Hathaway, and why?

Taking the last question first, the most obvious reason is Berkshire’s heavy exposure to derivatives, particularly the $37 billion notional value stock market put options Buffett sold for nearly $5 billion when the world markets were substantially higher than today, and on which Berkshire has taken mark-to-market losses of nearly $2 billion already.

In addition to the market index puts, there is another $11 billion in notional value worth of credit default obligations on Berkshire's books.

All told, Berkshire entered the crisis with nearly $50 billion of theoretical derivative exposure. This may seem ironic, given Buffett’s early warnings against derivatives as an asset class (“ticking time-bombs,” he called them five years ago), but Buffett is no shrinking violet when it comes to making money off whatever comes his way that fits in that circle of competence of his. “We have at least 60 derivatives,” he told shareholders two years ago, “and believe me: we’ll make money on all of them.” And his shareholders believed him.

But somebody, now, does not.

Who might that somebody be? For starters, the firms (insurance companies, most likely) who purchased those index puts from Berkshire might be getting nervous that, since the crisis has not let up, they should hedge their exposure to Berkshire.

Or it might be insurance companies that have purchased reinsurance from Berkshire (Berkshire does a huge business in catastrophic reinsurance—hurricanes and such), hedging their exposure in case the “Oracle of Omaha” suddenly loses his touch.

Time will tell if Mr. Market is instructing us, or not.


Jeff Matthews
I Am Not Making This Up

© 2008 NotMakingThisUp, LLC

The content contained in this blog represents the opinions of Mr. Matthews.
Mr. Matthews also acts as an advisor and clients advised by Mr. Matthews may hold either long or short positions in securities of various companies discussed in the blog based upon Mr. Matthews’ recommendations. This commentary in no way constitutes investment advice. It should never be relied on in making an investment decision, ever. Nor are these comments meant to be a solicitation of business in any way: such inquiries will not be responded to. This content is intended solely for the entertainment of the reader, and the author.

Monday, November 17, 2008

The Sincerest Form of Flattery


“I think there is something happening in the American marketplace that has to be stopped,” Byrne said. “When it comes to light it’s going to make Enron look like a tea-party.” [Emphasis added.] —Overstock.com CEO Patrick Byrne in “Insights from an Outsider” by Chase Christiansen, from Weber State University address, Nov. 6, 2008.


Chapter 28: A Convulsion That Makes Enron Look like a Tea Party—From “Secrets in Plain Sight: Business and Investing Secrets of Warren Buffett” (eBooks on Investing, 2011).


On the one hand, we’re delighted Byrne read the book. On the other hand, we’re disappointed he doesn’t seem to be giving given credit where it properly belongs. That is, to Berkshire Hathaway Vice Chairman Charlie Munger, who made the Enron comment at last May’s annual shareholder meeting.

Here’s how we wrote about it in “Secrets”:

The questions have been uniformly friendly…. But when Buffett calls on the twenty-fourth question of the day, the pleasant mood quickly changes.

“I’m Dr. Silber of the Infertility Center of St. Louis,” the man starts off, in a bright, friendly voice. The arena collectively freezes. Here we go: the abortion question….

But the doctor isn’t going there at all. “We have three candidates, all of whom seem to be pandering to voters,” Dr. Silber says, referring to the presidential election campaign now in full swing. “What would you do as president?”…

Munger speaks in his crisp, didactic fashion. “I’d like to address the recent turmoil and its relation to politics…. We have had a convulsion that makes Enron look like a tea party,” he says. “Human nature always has these incentives to rationalize and misbehave. We’re going to have turmoil as far ahead as you can see.”

—Berkshire Hathaway Vice-Chairman Charlie Munger, quoted by Jeff Matthews in “Secrets in Plain Sight: Business and Investing Secrets of Warren Buffett”. Emphasis added.



It is, indeed, a great line.


Jeff Matthews
I Am Not Making This Up


© 2008 NotMakingThisUp, LLC

The content contained in this blog represents the opinions of Mr. Matthews.
Mr. Matthews also acts as an advisor and clients advised by Mr. Matthews may hold either long or short positions in securities of various companies discussed in the blog based upon Mr. Matthews’ recommendations. This commentary in no way constitutes investment advice. It should never be relied on in making an investment decision, ever. Nor are these comments meant to be a solicitation of business in any way: such inquiries will not be responded to. This content is intended solely for the entertainment of the reader, and the author.

Friday, November 14, 2008

Jamie Dimon for Treasury?


Well, what the heck.

Since we here at NotMakingThisUp already endorsed one candidate for an important financial post in the new administration (see “Jaimie Caruana for Fed Chairman!”), let’s do another: Jamie Dimon, CEO of JP Morgan, for Treasury Secretary.

Now, this idea actually has a shot—Dimon has been giving advice to Obama himself; consequently, Dimon's name has been tossed around as a candidate for Treasury, along with one even bigger name: Warren Buffett.

Buffett, I suspect, would rather stick needles in his eyes than take a political position reporting to the Senator Foreheads of the world. Can anybody seriously imagine Warren Buffett explaining financial markets to “Friend of Angelo” Chris Dodd?

(I recently bet a woman at a book signing that Buffett would never take the job. Actually, she bet me. She asked if I thought Buffett would be the next Treasury Secretary. I said something to the effect of “Not a chance,” and she immediately bet five bucks. I’ve already spent the money.)

But Jamie Dimon is something else. Speaking at a recent Merrill Lynch conference, Dimon gave perhaps the best explanation for the financial freeze-up I’ve ever seen, and it didn’t involve charts or graphs.

“Let’s do a little interactive questionnaire right here,” Dimon said, breaking off an attempt to answer a question about when lending will start to ease up. “How many of you have moved money from riskier assets to risk-free assets, to protect your investors’ capital?”About half the hands in the room went up.

“You’re the problem,” he said, smiling, but making the point. “You’ve made the right decision for your business, but until people start moving money the other way, we’re stuck.” [Those are not all exact quotes, but quite the gist of his comments.]

Even Chris Dodd could have understood him.

Dimon also gave a rousing windup to his talk, saying that anybody betting against the U.S. was making a huge mistake. He defended Bernanke and Paulson—“They’re making decisions on the fly,” he pointed out, adding that despite all the talk about how slowly the administration is moving, his counterparts in Asia are impressed with how swift the actions have been in comparison to past history.

Now, my dog Charles will be Treasury Secretary before Warren Buffett.


Not that Charles has anything on Buffett, brain-cell-wise, if you get the drift. It’s just that Buffett has a company with over a quarter-million employees, over $100 billion in sales, and nearly 80 companies—every one of which he purchased—not to mention some serious financial derivatives now on the books in the form of S&P Index puts and CDOs.

He’s not going to turn all that over to some blind trust and start schmoozing Congresspersons who wouldn’t know a CDO from a CD.

But Jamie Dimon? I wouldn’t bet against it.



Jeff Matthews
I Am Not Making This Up


© 2008 NotMakingThisUp, LLC

The content contained in this blog represents the opinions of Mr. Matthews.
Mr. Matthews also acts as an advisor and clients advised by Mr. Matthews may hold either long or short positions in securities of various companies discussed in the blog based upon Mr. Matthews’ recommendations. This commentary in no way constitutes investment advice. It should never be relied on in making an investment decision, ever. Nor are these comments meant to be a solicitation of business in any way: such inquiries will not be responded to. This content is intended solely for the entertainment of the reader, and the author.

Wednesday, November 12, 2008

Hedgies in the Hot Seat


So the heaviest of Wall Street Heavies—George Soros, Philip Falcone, John Paulson, James Simons and Ken Griffin—are making their way to Capitol Hill even as we write this.


The five, supposedly chosen because they all made more than a billion last year, will testify before thoughtful and deliberative Congresspersons who really want to learn about this hedge fund business of ours, in order to make sure that Washington regulates the hedge fund industry as intelligently and rationally as possible.

We’re joking, of course.

What those Congresspersons want to do is say as many words as possible before their time limit expires and the Chairman gavels them to get to the point, before they run off to their next meeting.

We know: we’ve testified before one such committee.

On the one hand, it was kind of cool. They were as diverse a group of individuals as you’ll ever get under one roof; about as American as could be. On the other hand, they were, for the most part, blowhards. All it all, it was quite depressing.

The typical “question” went something like this:

Congressperson Sludge: “Thank you, Mr. Chairman, for this opportunity to get at the heart of the concerns of my constituents in the great state of [fill in your average state]. Now, Mr. Hedge Fund Manager, I want to ask about these hedge funds and why these hedge funds are hedging, and what they hedge. Is it not dangerous when so much money is in the hands of so few people with no accountability to the American people, this rabble you’re talking about, who do most of working and paying and living and dying in this town—”


Chairman Bile (banging gavel): Congressperson Sludge, you’re doing Jimmy Stewart from “It’s A Wonderful Life” again. Next time I hold you in contempt!"

Congressperson Sludge: “I apologize, Chairman Bile. What I want to ask the hedge fund persons is but before I get to that let me say that my state is the banjo capitol of the world, and banjos are the backbone of our society, and your corrupt influence on our financial structure should not be tolerated, except, of course, in the event of war—which I voted against, although it seems to me—”

Chairman Bile (banging gavel): Congressperson Sludge, your time is up. [Looking around.] Sludge? Where did he go?


Today’s hedge fund line-up is quite impressive, particularly because Congress finally picked one of the right guys to talk to: John Paulson, who got this whole subprime mess dead right.

Too bad nobody invited him to the table when his namesake, Henry Paulson, and the academic theorist Ben Bernanke, whose main qualification for the job of Fed Chairman seems to be that he studied the Great Depression and wrote a paper about it, were trying to figure out how to deal with the subprime crisis.

If they had, the Feds might not have gone off on tangents like the supposed “naked short-selling” crisis that some Congresspersons actually became convinced was what drove Fannie Mae to ruin.

Of course, just this week, Fannie Mae reported a $29 billion loss. And nowhere in the press release did we see a reference to the “naked shortsellers” who might have caused the loss.

Let’s hope Congressperson Sludge actually asks a real question—and waits around to hear the answer—today. He might learn something.

Nah.


Jeff Matthews
I Am Not Making This Up


© 2008 NotMakingThisUp, LLC

The content contained in this blog represents the opinions of Mr. Matthews.
Mr. Matthews also acts as an advisor and clients advised by Mr. Matthews may hold either long or short positions in securities of various companies discussed in the blog based upon Mr. Matthews’ recommendations. This commentary in no way constitutes investment advice. It should never be relied on in making an investment decision, ever. Nor are these comments meant to be a solicitation of business in any way: such inquiries will not be responded to. This content is intended solely for the entertainment of the reader, and the author.

Monday, November 10, 2008

Jaimie Caruana for Fed Chairman!


Inside the Fed, there were running debates resembling academic seminars, with Mr. Bernanke running discussions but often offering few opinions.
—The Wall Street Journal, November 10, 2008

Who is Jaimie Caruana, you ask?

As governor of Spain’s central bank, Mr. Caruana “helped implement dynamic provisioning,” according to the same Wall Street Journal—i.e. this morning’s edition—that also reported on the Bernanke Fed’s predilection for verbal noshing of the academic type.

What is “dynamic provisioning,” you ask?

It is, essentially, a spare fuel tank for banks that siphons off excess cash when an economy is running smoothly, for the day that same economy starts to sputter, as The Wall Street Journal explains:

In 2000, Spain’s central bank introduced a system of so-called dynamic provisioning that forced banks to build up reserves against future, hypothetical losses. At the time, Spanish banks stiffly resisted the regulation, fearing they would lose ground against competitors.

Now the rules are credited with giving Spanish financial institutions with big capital cushions that have helped them ride out the financial turmoil remarkably well, despite the collapse of the country’s housing bubble.

Take a gander at the chart on loan-loss provisions in the Journal story for a look at how Mr. Caruana’s efforts prepared Spain for the inevitable. (Sharp-eyed readers may note that Iceland appeared to be well-reserved at the time.)

Imagine, a political appointee who took the time to think ahead!

That’s why our vote is for Jaime Caruana, for Fed Chairman.



Jeff Matthews
I Am Not Making This Up


© 2008 NotMakingThisUp, LLC

The content contained in this blog represents the opinions of Mr. Matthews.
Mr. Matthews also acts as an advisor and clients advised by Mr. Matthews may hold either long or short positions in securities of various companies discussed in the blog based upon Mr. Matthews’ recommendations. This commentary in no way constitutes investment advice. It should never be relied on in making an investment decision, ever. Nor are these comments meant to be a solicitation of business in any way: such inquiries will not be responded to. This content is intended solely for the entertainment of the reader, and the author.

Friday, November 07, 2008

Dubious about Dubai


OCTOBER 7, 2008
In Dubai, Show Goes On for Property

DUBAI -- Housing crisis? Mortgage meltdown? Credit crunch?

After spending a few hours at Cityscape, this Mideast boom-town's annual real-estate trade show, you just might forget about the financial crisis gripping much of the rest of the world.

—The Wall Street Journal


It seems like only a month ago that real estate speculators in Dubai were patiently explaining why their Real Estate Bubble was different from our Real Estate Bubble.

In fact, it was just a month ago!

On Sunday evening before the show, Nakheel, a Dubai-government-backed property developer, invited guests including the acting couple Catherine Zeta-Jones and Michael Douglas to the pink Atlantis hotel at the tip of its man-made, palm-shaped archipelago.

The occasion was the launch of Nakheel's latest project: a kilometer-tall skyscraper. The $38 billion project is supposed to someday tower above the world's current tallest building, Burj Dubai, itself nearing completion here.

Hey, with a government-backed developer and Catherine Zeta-Jones on board, what could go wrong with a kilometer-tall skyscraper?

"I'm sure most of you are asking why we're launching this, and you'd be mad not to question it," Nakheel's chief executive Chris O'Donnell said. He added, "The project will be built over 10 years, and we'll have many more [economic] cycles before then...the world will be a different place by the time it's built."

"Mad" is, we think, the exact word for
O’Donnell's assurances, as reported by the Wall Street Journal, that the speculation in Dubai will survive whatever cycles the world will throw at it.

In fact, O'Donnell's words bring back memories of summer, 2007, when an investment banker stood at a podium in New York City and confidently explained to a group of investors why Bubble-era multiples on peak-cycle EBITDA numbers for deep-cycle, capital intensive businesses like Freescale Semiconductor made sense.

The key, he said with a straight face, was the lack of restrictive covenants on the leveraged loans, which would help Freescale and others survive whatever economic cycles might be thrown their way.

Still, now that the leveraged loans of Freescale and others are going begging, we find that Perini Corp, a builder of mega-casinos among other things, wants to go to Dubai and get in on the game, as management explained on yesterday’s earnings call:

“The current economic climate involving the credit markets has caused some customers delay in certain new project starts, primarily in the hospitality and gaming markets. Some customers have decided to postpone preconstruction activity until financial markets regain their footing and open up credit capacity….

“Overall, we continue to see many opportunities to secure new business in each of our business segments, both domestic and international. Bob will share more details of our prospects in a few minutes, including our strategy to become a significant contractor in both Dubai and Abu Dhabi in the Middle East.

“In Dubai, we have agreements in principle with substantial local and international partners to participate in construction joint ventures which may be awarded within 90 days. These are for large hospitality and mixed-use projects for which we have participated in several design workshops to date….”

Call us cynics, but if we were building “large hospitality and mixed-use projects” in an overbuilt, Bubble-ridden market like Dubai, we’d want the cash up front, in the bank.


Jeff Matthews
I Am Not Making This Up


© 2008 NotMakingThisUp, LLC

The content contained in this blog represents the opinions of Mr. Matthews.
Mr. Matthews also acts as an advisor and clients advised by Mr. Matthews may hold either long or short positions in securities of various companies discussed in the blog based upon Mr. Matthews’ recommendations. This commentary in no way constitutes investment advice. It should never be relied on in making an investment decision, ever. Nor are these comments meant to be a solicitation of business in any way: such inquiries will not be responded to. This content is intended solely for the entertainment of the reader, and the author.

Wednesday, November 05, 2008

How Dave and I Learned about Efficient Markets



Markets, especially political markets, really are efficient.


I happened to be in downtown Chicago yesterday, Ground Zero of what was shaping up to be—hours before the polls had even closed—an Obama victory celebration unlike anything American politics has ever seen.

And the most striking thing about it was you could feel what was coming in the air.


A sort of magnetic pull seemed to be carrying people towards Grant Park from every neighborhood in the city. People wearing Obama buttons and Obama hats and Obama shirts with “I Voted” stickers on them walked in pairs, in groups and in long lines. And they were lining up at barriers in the park, to wait in the unusually warm afternoon sunlight for whatever it was they seemed to know was coming.

I’d seen this before—this anticipation of something coming, something already in the air before anything was officially declared settled. Only it was on the losing side of a political campaign.

The politician was Massachusetts Senator Edward Brooke, the first African-American Senator elected since Reconstruction. Immensely popular until a bitter divorce, Brooke had been struggling to hang on for a third term in the Senate.

His challenger was a bright, attractive Congressman named Paul Tsongas, who would later run unsuccessfully for President and die an untimely death from cancer. For reasons not entirely clear even thirty years later, Brooke’s campaign was largely entrusted to a bunch of recent college graduates—including a guy named Dave, and yours truly—whose main talents tended towards pretty much anything except what a well-run campaign needed.

And so, Brooke lost.


In truth, he’d lost weeks before the campaign ended, but not one of us had figured that out. So come election night, Dave and I stood around the badly-named Victory Party watching returns coming in on a TV monitor, wondering where everybody else was.

‘Everybody else’ was at the Tsongas party.

And that’s when Dave and I learned how efficient markets—and politics—can be. The crowd knew it before we knew it, before the networks knew it, before Brooke himself conceded.

[Minor historical footnote: thanks to Barbara Walters' shameless book-plugging, we now know that she was having an affair with Brooke during his campaign, so perhaps the blame for his defeat does not accrue entirely to David and me alone. Perhaps.]

Walking towards Grant Park yesterday took me back thirty years, almost to the day of that realization. Markets—especially political markets—are extremely efficient.

Whichever way you voted, it was kind of cool.


Jeff Matthews
I Am Not Making This Up

© 2008 NotMakingThisUp, LLC

The content contained in this blog represents the opinions of Mr. Matthews.
Mr. Matthews also acts as an advisor and clients advised by Mr. Matthews may hold either long or short positions in securities of various companies discussed in the blog based upon Mr. Matthews’ recommendations. This commentary in no way constitutes investment advice. It should never be relied on in making an investment decision, ever. Nor are these comments meant to be a solicitation of business in any way: such inquiries will not be responded to. This content is intended solely for the entertainment of the reader, and the author.

Monday, November 03, 2008

Companies Bought High, But Won’t Buy Low


Regarding our uses of cash in the quarter, capital expenditures were $49 million. We paid out dividends of slightly over $21 million and we repurchased 475,000 common shares for $25 million….

While we believe we have access to ample liquidity, we think it is prudent to so suspend our share repurchase program for the time being.

—Charlie Cooley, Treasurer, Lubrizol, October 30, 2008


Sharp-eyed readers who do the math implied in the quote above ($25 million spent buying back 475,000 Lubrizol shares = $52.63 per share) and then check the Lubrizol share price on their Google Finance ($37.58 last trade), will no doubt scratch their heads at the bizarre logic contained in the above commentary from Lubrizol’s treasurer.

Lubrizol happens to be a sleepy specialty chemical maker with a decent franchise in fuel additives. As the price of crude oil tripled in the last couple of years, so Lubrizol’s cost of goods soared, crimping margins as well as the recent stock price.

Yet now that Lubrizol's share price has declined along with everything else in this fear-crazed environment, the company is saying “We bought our stock at $52.63 a share, but we will not buy stock at $37.58 a share.” (For the record, Lubrizol shares traded as low as $34.25 and as high as $38.39 on Friday, when the statement was made.)

Fortunately, after several years of being asleep at the proverbial switch, Wall Street’s Finest are spotting the fallacy contained in the inherently illogical notion that companies who bought their shares near their all-time highs a few short months ago—under the “returning value to shareholders” mantra—are too scared to buy the very same stock at far lower prices today.

In fact, one of those Finest asked exactly the question of Lubrizol management that all such former members of the Returning-Value-To-Shareholders Club should be asked.

We reprint the dialogue courtesy of the indispensible StreetEvents:


Jeff Zekauskas - JPMorgan - Analyst

And lastly, you said that you bought 475,000 shares…and you spent $25 million, so you bought them at $52 a share. Your outlook is I guess the same as you thought it was, but you are suspending your share repurchase now that the stock is at $34. Do you think that that is -- do you think that that is a prudent thing to do?

Charlie Cooley - Lubrizol - SVP, Treasurer & CFO

Fair question. And as you know, Jeff, we have been asked this question during the course of the year, asking why our share repurchase program has been as kind of methodical and systematic as it has been. We have never viewed the share repurchase program as primarily being a tool of making a call on our share price. Rather we see it as a way of balancing our use of cash and adjusting [our] capital structure….


This is all about maintaining the strong financial help that we have enjoyed for years. So it is suspended temporarily and we will look for an opportunity to get back into a share repurchase mode.


We’re not sure exactly what Mr. Cooley meant by “balancing our use of cash and adjusting [our] capital structure.”

We think it means, “We bought high, and now we’re too scared to buy low, but we don’t want to say so on a conference call.”

Other interpretations are welcome.


Jeff Matthews
I Am Not Making This Up


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