Wednesday, October 22, 2008

Follow Up: What Type of Investors are SWFs

Well, if Nicky Sarkozy gets his way, they'll be the worst kind. Apparently he has fallen off the wagon along with the rest of our world leaders. He wants a Europe-wide SWF which has the following stated goal:

"buy stakes in companies with low share prices and protect them from foreign predators"

Strange, back in those naive, silly days of capitalism, a low share price indicated that the company had poor prospects and thus was not a good investment. Back then, the share prices suggested that these companies faced quaint capitalist problems like overbearing competition, bad management, too much debt, bad products, or litigation.

Thankfully, the New World Order has seen the light. They've finally recognized that economies following Marx, Engels, Lenin, and Stallin have always been so wildly successful and stable precisely because they outlawed those nuisances above. Just like the pickled corpse of Lenin in Red Square, they insisted on preserving their rotting businesses at the expense of focusing money and effort on fresh, vital ones.


Tuesday, October 21, 2008

At the Risk of Stating the Obvious: Too Much is ... Well ... Too Much

I'm declaring an end to my blog-strike protest, but I'm certainly not getting over it's original cause. The floodgates are open. Bad, inefficient, uncompetitive, loss-making businesses are being propped up rather than forced to release their capital and get out of the way for someone who can actually make money with it. Return on capital is so '80's. Terribly capital inefficient projects are being brought out of governmental garbage heaps by heavy Keynesian hands. People who paid too much and made too little for their McMansion and Merc are going to be "rescued" from themselves (no matter who becomes president).

Anyone who is currently faced with a "cut your losses" prospect is highly incentivised to wait a while, maybe even make their situation a little more dire, and then scream for a rescue. As Ayn Rand feared, the notion of "from each according to ability, to each according to need" is fast becoming a reality.

Governments globally are assuming the role of [incompetent] banks by assuming bad debt and making foolish loans. Counterparty, market, and credit default risks are being glibly transferred to sovereign risks.

It's always tempting to throw good money after bad. Temptation has finally won. If I were a religious man, that statement might give me cause for concern.

As an economics man, it gives me horror. Without solving the root of the current crisis, we've sewn the seeds of the next.

It will be a doozy. With each crisis, our helpful nanny-leaders grow more sure that we, the lowly citizens cannot be trusted with ourselves but must be kept on tight choke collars. More regulations. More taxes. More reallocation of the money we earn. It's for our own good, they keep telling us as they encroach ever further into our ability to progress (personally and as a society). Times are different, they say. This is unprecedented, they say.

They are not, and this is not. We've had many a crisis before, and unfortunately with mixed outcomes. The stronger the pain, the more severe the whiplash response ... and the more unpredictable.

I'll return to my mantra (and notice I am unable to channel Keynes). No one can live beyond their means for long. Temporary rescues just forestall the fall.

Tuesday, October 07, 2008

Follow Up 2: Idle Shareholders


Apparently, at the exact same time I was blogging about irresponsible boards, Carl Icahn was on Fast Money echoing my comments, right down to my "fox in the henhouse" allusion. The video is here. For the record, I first said this about corporate execs back in July. Also for the record, I'm sure he's been saying it since before I was born. It's just nice to be in good company!

In a nutshell, Icahn doesn’t feel corporate management is properly held accountable for their actions. And going forward, he’s determined to see that they are. "It's like asking the proverbial fox to guard the henhouse," he said. Ichan said he is starting a cause called the United Shareholders of America to fight in Washington to change the rules on how corporate management in America operates.
- Unintended Consequences, Recap of CNBC's Fast Money, Seeking Alpha Blog 10/6/08

Monday, October 06, 2008

Follow Up: Idle Shareholders

Way back in July when the financial crisis was just a dull, irritating hum, I wrote a blog to explain the biggest reason why big corporations go afoul. In short, I argued that CEO foxes are left to guard the corporate hen house by absentee owners (shareholders) and their surrogates (fund managers).

I promised to be back with some suggested cures for this corporate cancer. So here I am ... with a new buddy.

Governance Guru Nell Minow talked to Congress about Lehman today. After watching the proceedings, I'm certain they brought her in to lend a sliver of credibility to their populist attack on executive compensation, but she slyly took the opportunity to point the finger a different direction:

the board was too old, had served too long, was too out of touch with massive changes in the industry, had too little of their own net worth at risk, and was too compromised for rigorous independent oversight
I couldn't have told the story better myself. Therein lies the problem and the cure for the cancer. The Board are the ultimate representatives of shareholders, and they are just as guilty of negligence as absentee shareholders. If leverage over CEOs can be had, the Board is the vehicle. The trick is to fix their incentives in order to align with shareholders at large.

A Board seat is a position of honor and prestige. Unfortunately, some members are after these alone, and only grudgingly accept the duties of representing shareholders. Some don't even bother to pretend they care. They usually get nominated because they are famous or connected, not because they are qualified. To align the Board's interests with the interests of us shareholders, we must flex our public opinion muscle by pressuring ALL corporations to implement some game rules.
  • Corporations must finally figure out what Governance really means. I'll devote an upcoming blog to this one soon. As an amuse-bouche, I offer the Washington Post's 2006 corporate governance primer.
  • Boards must meet monthly. Each committee must meet twice monthly or more. Repeated truancy must be rewarded with expulsion. If this is too burdensome to fit into one's social calendar ... well, board seats are not for everyone.
  • Executives must not sit on their own boards. Period. They can submit proposals. They can submit reports. They can visit when invited.
  • In the interest of combatting boardroom ADHD, board members should focus on one organization in most cases.
  • Board members must "buy in" just like a poker table. And the stakes must be enough to make it interesting to them. Explicitly, shareholders must invest a significant share (25% might be a good guideline) of their net worth in the company's common stock or unsecured debt. Furthermore, they must agree to sell deeply underwater puts with expiry at least 5 years out. These must be rolled each year they are on the board, such that they continue to be in force for 5 years after departure from the board. Again, if this sounds too harsh ... NEXT. I can already hear people calling me elitist, "if seats are bought, only the rich will have them." To that I counter that anyone should be able to get on the board if enough shareholders are willing to "sponsor" them. But then it's up to those shareholders to actively police their representative.
  • Board members must be able to demonstrate a germane area of expertise. For some it might be accounting, for others economics, for others management, for others past experience in the industry. If their only claims to fame are money and ... well ... fame ... NEXT. This should be policed by the owners. Here's a million dollar idea for someone: set up a board member rating agency. Nell's group The Company Library is a good start, but focuses on the enterprise as a whole, not specific board members. Additionally, their soup-to-nuts prosaic appoach is a bit much. My advice (to them or their start-up challengers): keep it simple: A through F based on pre-determined and public criteria.

This is just a starter kit. I'm sure Nell and the other Governance-ators have their own hats to throw in the ring. Go ahead, new buddies-o-mine!

Sunday, October 05, 2008

What Will Tomorrow Bring: the TARP Bonanza

To my chagrin, TARP passed without consideration of other options ... and with a disgusting dose of pork which had NOTHING to do with our current financial situation. The worst of Washington yet again.

So what will Wall Street do in response to this shiny new program?

  • A number of banks will take this opportunity to PASS. They will recognize that doing so will put them at a strategic long-term advantage over competitors who will be hamstrung by the plan's restrictions. They'll be able to spin this to their PR advantage as they swagger that they're too strong to need such handouts.

  • Accontability will be a joke, as will the valuations used. Nobody except the sellers will do enough due dilligence to understand what goes on.

  • There has already begun a feeding frenzy of asset managers and prime brokers pining to become "financial agents of the Federal Government" (as they're called in the text of the act). Those cozy enough with their regulators and the Treasury will win these noncompetitive contracts will help Hank blow his new riches. These will be the biggest winners of the whole event. I don't like to drop names, but ... cough, cough, Goldman, Chase, cough.

  • US Debt will march north. It will get more and more expensive to find lenders. Thus, treasury yields will go up. This means the cost of serving the national debt will go up. This means the government will have less to spend on other things ... OR they'll just continue to borrow. One of the "sweeteners" in the final TARP was to raise the national debt ceiling got raised to an unfathomable $11,315,000,000,000.00. Oh, and "any amounts provided in this Act shall not be counted for purposes of budget enforcement." At some point, we pass the number we'll ever be able to repay. The country becomes that downtrodden dude who will take 137 years to pay off his credit card (at the minimum payment) ... but with several score more zeros. Then the choice is:
    • Undertake a painful, suicidal "fiscal austerity" program like we've imposed on many a Banana Republic
    • Default on the debt
    • Inflate the currency until all those zeros aren't so daunting to pay off

  • My prediction: Inflation will march north along with the debt. This will throttle both savings and borrowing in the US. It will depress the value of the Dollar. It will shave points off growth. It will eat away asset values of ordinary Americans and provide a disincentive to save.
  • On a brighter note, Europe, Southeast Asia, India, and South America will experience 1.5x the pain we do here in the US.