GE: An Electricity Company @ $10.78

If you have a long investment horizon (i.e., many years before being eligible to receive social security checks), get your money out of money market and load up on General Electric.

“But GE has just been downgraded!” Stop! Listen to me and I will tell you why.

Share Performance

Its share price dropped 70% in last year, a clear winner vs. S&P 500 in the race to the bottom. The market value is $114 bn, or 6X earnings.

The Business

Here’ a summary of last five years’ income statement by segments.

A caveat emptor first: I don’t know anything about the business of General Electric, except than I was using a GE microwave oven and that it owns GE Capital, which is a bank.

The Valuation

Anyway, tell you how I put up with a price.

The company has five segments – energy infrastructure, technology infrastructure, NBC universal, capital finance and consumer & industrial. The capital finance part is the bank.

Banking business is quite fishy these days, so I will give the capital finance segment ($8.6 bn profit ‘08, 10X leverage) out for free; The consumer & industrial part ($365 mn profit ‘08) is small compared to the other segments, I will also give it out for free.

The rest three segments (again, I don’t know what they are doing) had a combined profit of $17 bn ‘08. By the current market value, it gives a P/E of 6.7.

Now suppose that the economy is really bad in the next two years (C’mon, even Google is laying off people), and those three segment makes zero profit in ‘09 and ‘10, then return to the ‘08 profit level in ‘11 and grow in line afterwards with the U.S. GDP at 3.5% (2.5% real growth plus 1% inflation).

If you discount the earning stream at 10%, the P/E would be 1/(10%-3.5%)/(1+10%)^2 = 13X, or a market value of $221 bn, about 200% of the current.

You may say that “hey wait a minute, that’s not cash.” Let me tell you this: GE had a historical dividend payout ratio of 80%, or so I heard. Take a 80% discount if you wish to.

Besides, I seriously think the growth rate is underestimated. Here’s a part 10-year summary: The CAGR of earning growth was a solid 6%.

Besides, don’t forget that I gave you GE Capital and Commercial & Industrial for free. Besides, I wiped the rest’s earnings out for two years.

A Comparison

Admittedly, there are many earning-depressed quick picker-uppers out there these days, but GE is obviously one of the worst (see above).

An Argument Against the International Reserve Currency Proposal

Mr. Zhou Xiaochuan, Chairman of Monetary Policy Committee of the People's Bank of China (PBoC), has created quite some buzz with his proposal to Reform the International Monetary System. I expressed my surprise earlier here, and clearly I misunderstood it at first. After rereading his proposal carefully, I don’t think it is very much constructive.

Now Mr. Zhou is widely recognized as an achieved monetarist, with an extended knowledge and unparallel insights of international and domestic economic and monetary matters - I have admittedly learned a great deal studying his influential speeches.

On this specific issue, however, I would have to express a somewhat different opinion.

The Proposal

I don’t need to repeat the well known and escalating global imbalance – tons of literatures are available online. Mr. Zhou’s proposal is to expand the role of IMF’s Special Drawing Rights (SDRs) as the international reserve for transaction clearance among nations, replacing the prevailing USD.  A full page of SDR description here.

To summarize it, IMF allocate SDRs to nations on a specific quota. The initial quota is here (it reads like a will, with the U.S. being the favorite son) and the change of it requires “[a]n eighty-five percent majority of the total voting power.” The value and interest rate is equivalent to that a basket of major currencies - today consisting of the euro, Japanese yen, pound sterling, and U.S. dollar.

Why SDR Won’t Solve the Problem

SDR is a type of money. Though not the money that you can do shopping with, nevertheless it is money. The function of money is: a medium of exchange, a unit of account, and a store of value. Mr. Zhou’s worry comes from USD’s store of value, or inflation.

Is SDR inflation-proof? Think of it as a basket of currencies – expand to include all world currencies if you like – the shares proportional to trade volume (not that important actually), so that you can create synthetic SDR with that basket of currencies.

The value of SDR, or your basket of currencies, is measured by what you can buy on them. (Yes, value of goods are measured by money as well as the value of money is measured by goods. So wicked!) When some country for some reason prints a lot of money, it inflates and its currency depreciates. If the currency is in the basket, the purchase power of your basket depreciates as well.

If China exchanges a basket of USD for SDR, inflation remains a concern – except instead of distrusting the United States you have to distrust many countries’ monetary policies. I would argue that the United States appears a bit more reliable on this one – it takes much pressure (though increasingly possible) to inflate in the United States, a nation of whiners, on almost everything.

What To Do Then?

I honestly have no idea – told you that money is much a headache. It appears there is nowhere to run, except that China could manage RMB effectively, only without a large amount of foreign reserves as a byproduct of the export-driven growth strategy.

There are however several ideas to explore. One is the TIPS, though the Chinese reserve is oversized for it. Another one is holding assets correlated to inflations, and it introduces new source of risks. The U.S. treasury is risk free – check your corporate finance textbook if you have any doubt. Or should we maybe reconsider the Gold Standard? Historically it has been a source of problems.

Alas! Nowhere to run. Why is money necessary?

http://icecurtain.blogspot.com/

What Should China Do with $2 Trillion? (Part 2)

This is the second part of the series. First part here.

The Alternatives

Holding $2 trillion dollars, the Chinese authority has several options.

A Portfolio of US Treasury managed by PBoC

This is the status quo. Don’t think it is risk free return. Besides risk of inflation as I mentioned earlier, there is also exchange rate risk and a hard decision of short/long term allocations.

While the yield curve is influenced by the Fed, the possible reallocation of the Chinese reserve would inevitably move the yield due to the size of the portfolio. Out of curiosity, I would like some transparency of the current arrangement, or will I be asking for too much?

A Sovereign Fund

This one has also been carried out. China Investment Corp (CIC), is managing $200 billion financed by debt issued by Ministry of Finance. Ostensibly the risk is transferred to another entity, actually if CIC goes under the government would be footing the bill.

Again, some transparency would help. At lease have some press releases, as does the Abu Dhabi Investment Authority (ADIA).

Financial Investment by Citizens

This is to offer global investment options to local citizens in China - saving rate is high. Instead of limited local personal financial options, offer choices of international equities, bonds, commodities, REITs, etc.

It may partially solve the problem of dollar flood, but it sounds a bit dangerous, doesn’t it? Besides, it seems out of line of the current Forex management philosophy of the government. The consumer protection regulations may not be ready as well.

M&A by Corporations

We live in a global village. A large and uncultivated local market notwithstanding, Chinese corporations have to be global in scale to contribute to the global economy. Foreign merge and acquisitions or FDI sounds a natural step.

I am talking about strategic acquisitions and/or investment (vs. financial ones for financial gains). With global asset price depressed, it is never a better time.

The Chinese companies’ global footsteps have been intensifying, mostly in the resource acquisition area. Google it for more information. But I would like to stress the obstacles here, without an intension to be negative.

First, there is a huge historical, social, political, legal, cultural, linguistic gap. China has been a closed economy for a long time, seriously lacking experiences of global operations. Besides, we are commies. Chinese companies grew up under a different sets of rules and competitive environment. There are a lot to learn.

I have to point out one misconception: Chinese pundits like to distinguish mature market (i.e., developed economies) vs. immature market (developing economies) and insist that the later is more suitable for Chinese companies. The not-so-conventional wisdom makes less sense to me. The so-called mature market is called so for a reason – open market of greater size, well established infrastructure, a more complete legal environment – overall, a safer investment field in spite of competitive intensity. Why giving up?

Secondly, worthwhile competitive advantages have to be established. Chinese companies are perceived as low-cost producers - China’s nominal GDP per capita is $18k, while most developed countries are above $40k. Or you can look here.

However, cost leadership is an edge easy lost. sustainable global businesses require the emergence of some serious global brands, based on technology advance, management and operational capabilities. There are but few established examples.

Thirdly, it needs a capital market for financing needs – few companies can afford the bills by operation cash flows alone. Chinese banking system are nationalized and theoretically inefficient on capital allocation, not mentioning lacking international exposures.

Finally, it returns to the topic of exchange regime. RMB is appreciating at 5% per year, raising the bar of required rate of return. 

http://icecurtain.blogspot.com/

Healthcare Reform: Where are the Details?

I consider healthcare a quintessential part of social safety net. Almost all developed economies (well, except the United States) provide universal healthcares to their citizens. So I figured China has to have one.

The status quo is far from that:

“官方统计显示，截至2007年９月底，全国社会保险参保人数分别为：养老保险１.９７亿、失业保险１.１５亿、医疗保险１.８９亿、工伤保险１.１５亿、生育保险０.７３亿。”

And China has a population of 1.3 billion. The above figure says that only 15% have healthcare insurance.

That explains how excited I was when I read this: 医改方案出台 3年投入8500亿参保覆盖90%. Viva, socialism! It’s gotta set a world record.

Like everybody, I’ve been anticipating the Healthcare Reform anxiously. Viola! The suggestion version (?) is finally published.

Look at that! What a piece of spectacular trash! It has anything but information! It’s not even boring! Jesus, how can we trust 1.3 billion people’s healthcare on those guys?

 

P.S., where did the RMB 850 billion go?

http://icecurtain.blogspot.com/

Planet Earth Dollar, Really?

Zhou Xiaochuan, governor of the People's Bank of China, proposed the creation of a world currency, according to WSJ.

China called for the creation of a new currency to eventually replace the dollar as the world's standard, proposing a sweeping overhaul of global finance that reflects developing nations' growing unhappiness with the U.S. role in the world economy.

Really? Did he really my earlier paper? Has not the haves and have-nots of the Euro brought us enough fun?

I can think of at least two guys that would say no – the almighty British empire that’s for long coy on joining the Euro, and Zimbabwe whose president is busy printing money in .. sextillions (with an s?).

Why PPIP is Bad for Tax Payers and Opportunities for Improvement

I sift through my blogroll and concluded that the Geithner’ plan, the Public-Private Investment Program (PPIP), is a great deal for banks, a so-so deal for private investors, and a bad deal for tax payers. My earlier post could be wrong.

Here is why:

Asymmetric Information and the Lemon Problem

Under the legacy loans program, “Banks identify the assets they wish to sell.” It is like buying a used car: all problems emerges only after the purchase. And the banks have incentive to put the most troubled ones on the market without adequate disclosure. The result is that the investors would tend to overpay.

The Winner’s Curse

The assets would be auctioned, and auctions leads to the Winner’s Curse – who overvalues win the bids.

In other words, bidding wars lead to overpaying. Besides, banks may have the option of not selling if the price is not right – a price floor.

Leverage Aided Risk Taking

Consider a portfolio of 2 possible payout: $10 or $30, each at 50% probability. Without leverage, your willingness to pay (WTP) is $20, if you are risk neutral.

When the leverage kicks in, it drives up the total price since when the investment goes busted the debt holders would be left holding the bag. At the same time, the FDIC guarantee reduces the risk aversion of debtors.

The higher the leverage, the higher the price (which is decided by bidders) and the expected loss of debt holders.

Potential for Fraud

Suppose a bank has a loan portfolio worth 20 cents on a dollar. It may collude with some guy to take advantage of the plan. For example, it may give a loan of 10 cents to a bidder, bidding the portfolio off at 80 cents with 70 cents from government (60 cents debt and 10 cents equity), so that it sold a 20-cent problem for 70 cents (80 cents selling price – 10 cents loan). Criminals.

Opportunity for Improvement

The overall problem is that investors tend to overpay with or without purpose, while the government is skewed on the risk side. Thus it requires that the government be a good loan officer to safeguard the taxpayers. To do it, the authorities have to know the fair value of all what are put on the market and monitoring the auction results. If the price seems over-realistic, it has to step in and veto – a price ceiling.

On the other side, it should not allow sellers to pull back – must sell at the auction price regardless of the results, provided there are plenty of participants – otherwise there won’t be a market.

A Herculean task, easier said than done.

Geithner’s Deal or No Deal

Warning: the author acknowledges that the model used in this post is seriously flawed.

Finally, Mr. Geithner released Details on Public Private Partnership Investment Program. Read it, especially the Legacy Loan Program with a higher leverage, because it is a good deal.

The program allow you to put down $1 equity, together with matching $1 from Treasury and $6 FDIC guaranteed financing.

Expected Return

Suppose there’s a loan portfolio of a should-be price of $1000 (not market price, but fair price), you win the bidding at $800, or 80% at discount. You put down $100, and if the net interest rate is 2%, your rate of return would be …. 15%.

Notice that the above model is, as a legacy of this blog, oversimplified.

Here’s the sensitivity analysis by net interest rate and purchase on discount.

Risks

This is selling distresses lemon. The return depends on the auction result, but remember that the selling banks are supposed to be in distress, so is the market price. On the other hand, however,

“To start the process, banks will decide which assets – usually a pool of loans – they would like to sell.”

Dah!

It also depends on how you foresee the economy and the trend of interest rate. I have no idea on both of them.

The upside is the $500 billion to $1 trillion rearrangement inject fresh cash (as well as write-downs and moral hazard) into the banks. Let’s hope they will prudently lend them out.

Conclusions

To save the economy, the Fed turned into the biggest hedge fund, the Treasury the biggest LBO fund, and FDIC is writing a bunch of CDSs. Who says the President is a socialist?

This is Geithner’s Deal or No Deal plan, Geithner’s eBay plan, Geithner’s weekend poker game. Care to join him?

Please respond directly (rich guys only). Evil spirits!

http://icecurtain.blogspot.com/

What Should China Do with $2 Trillion? (part 1)

Suppose you are a maize farmer. I buy some maize from you with some money. Just another day in life, right?

What if I tell you that the money I pay you is not your kind of money, but my money, which I can print as much as I want to? Would you hesitate to accept that money?

Furthermore, you cannot really use that money, and you have to deposit it at a bank. Guess who is the bank? It’s me, and I set the interest rate.

Would you still selling the maize to me? Few will. But that’s more or less what the US is doing to many nations, especially those in Asia. China accumulated $2 trillion by exchanging goods with the United States for paper money that the country printed.

In this article, I will show you all sides of the story behind it.

The Dollar and US/China Imbalance

Money flow among countries via trade (of goods and services) and investment (in financial or hard assets). If you pay more and receive less, you are running a current account deficit.

The problem is countries have their own money, and it has caused headache for hundred of years because of the exchange rate and its related bunch of troubles. The consensus today is that dollar is the major international currency, so that countries write checks to each other in dollar.

Why dollar, you may ask? Well, it used to be gold, and the one with dollar is kind of a long and unpleasant story. The gist is counties don’t trust each other too much when it comes to printing money, and the United States is relatively a reliable one (and more importantly a rich one). Some country like Ecuador even gave up its own currency and dollarized (meaning they use the US dollar as their official local currency) – must have a lot of fond memories. On the other side of the Atlantic Euro is becoming a regional currency, with advantages and disadvantages.

Anyway, the United States has been running a current account deficit in recent years (chart below). The ‘08 number is $673 billion, around 5% of GDP. Among them $306 billion is with China.

So that along the way China is piling up US dollars. It’s almost $2 trillion as of today.

Now take a look from the China side.

In contrast to the United States, China is running a surging current account surplus, currently at $400 billion, or 10% of GDP.

What’s Driving China’s Trade Surplus?

The above chart may give you some clue. If you organize China’s foreign trade by type, you can see that the regular trade is almost balanced; there’s a deficit in other trade (I don’t know what that is); the processing trade (i.e., importing raw materials or components, assembling, then re-exporting the finished products) is shooting up through the roof.

Another way to look at the trade data is by type of corporations. The above shows the February's import/export data of state owned, foreign owned enterprises: 60% of export is by foreign owned. (BTW, the yoy trade volume dropped over 20%.)

So here’s the story: foreign companies have established manufacturing facilities in China for processing goods and re-export. If you are like me, you would be wondering why….

Should RMB Appreciate?

Some guy accused China for manipulate currency and urge China to appreciate RMB. Is it justified?

The above is the historical exchange rate of RMB/USD. It used to be that RMB 2 was worth $1. (Really?) In recent years RMB’s been gradually appreciated.

Like many Asian countries, the Chinese authority pegs the RMB to USD, meaning the government decides and maintains the exchange rate. The other kind of exchange regime is float exchange rate, in which it’s decided by the market.

So is China cheating by setting the exchange rate too low (so that Chinese goods are cheaper and thus more competitive)? It is a rather complicated value judgment, but I will tell you what I think.

First it’s about the price level discrepancy among countries. There are measures comparing price levels among countries, and the major one is Purchase Power Parity (PPP).

The above is an international comparison of PPP-based GDP per capita and price levels (hint: find Iceland, the allegedly recently bankrupted country). The rule of thumb is that the higher PPP-based GDP per capita (consider it a measure of productivity) leads to higher price levels. In other words, low-income countries set the exchange rate low. And I don’t think all the low-income countries are running a trade surplus. The point is that by such a rule only (don’t ask me who sets the rules on what ground), trade surplus seems not the reason to justify currency appreciation.

Secondly, as I mentioned earlier the export driver of China is really the processing trade by foreign owned companies. Think a minute about how these companies operate. They import materials in USD, pay wages and expenses in RMB, export finished goods in USD for a profit (after wage and tax) also in USD.

If RMB appreciates, they have to pay a higher wage so that the cost would be higher. Although the reality is more complex, if there is another equivalent country with the same investment environment but lower cost level, they may plan to move. Would RMB then be depreciated again?

Thirdly, some evidence from Japan.

Japan depreciated Yen by half in the 80s to around 100:1 to USD and kept it there, but it’s been continuously running a trade surplus and current account surplus ever since. Price level induced by exchange rate may not be the only reason of trade imbalance.

Is It Good for China?

First of all, everybody says that free trade is good yet trade negotiation always fail. We live in a bizarre world.

In the case of China, consider the foreign owned enterprises and the resulting trade surplus a stimulus package. It creates jobs and boost local economy (the multiplier). As for the MNCs, they use China as a lower cost production center and selling goods at the same price at home. Consumers also benefit from low inflation. It seems a good deal for everybody.

There’s one problem though. The entire process creates total money supply around the world. It’s well depicted by Wu, the former chief of Foreign Exchange Management Agency. It’s a kind of asymmetric process, and I’ve raised the issue.

Is the Money Safe?

Is it safe to hold so much dollars? The Premier expressed his worry recently.

Fundamentally different from Russia or Mexico that defaulted on their sovereign debt (USD denominated), the United States would not – they can simply print money instead. Under such a guideline, I sold a bunch of CDS on the US treasury and booked a huge loss recently. How could it be?

Besides, the US GDP is 25% of the world (the EU another quarter). If that guy cannot pay his mortgage, what would be happening?

I guess the Premier is worried about inflation and with good reasons. Would there be inflation? I don’t really know. But I guess the time when we see inflation, It would probably be the time when we are out of the recession (though history says otherwise).

What Should China Do With the Money?

The Chinese government has been responsible with the foreign reserve assets. Still, it is a problem, ironically caused by having too much money – image you are a mutual fund manager just raised $2 trillion.

Currently the Chinese government holds most of the reserve in US treasury bills. Probably in an effort to diversify, China Investment Corp, a $200 billion, CDO-type sovereign wealth fund was created. Disappointingly, nobody knows what those guys are doing with the money (ponder this: whose money is it really?).

There is, however, another way to go: encourage the Chinese corporations to invest abroad.

(too tired, to be continued)

http://icecurtain.blogspot.com/

The Dark Side of Foreclosure

Warning: Do not draft your business plans on this post.

I talked about foreclosure, a closely watched sign of the economy in this housing-driven crisis.

I later found that foreclosure happens in many other forms. Here are two.

The above graph is quite telling. Housing prices are deep under water, sometimes over 80% under mortgage owned (hence more under purchase price). Absurd. The funny thing is, home owners like this should foreclose, rationally. If you owe $300,000 mortgage on a now $50,000, you should let foreclose the house and then buy it back, earning somewhere less than $250,000.

Another thing is buyer fraud. As illustrated, it works like this: you find a $300,000 home, get an appraiser (who’s willing to lie) to label it $600,000, get a mortgage of that amount, pays $300,000 to the seller, then default and get away with the surplus. 

What’s credit’s worth?

http://icecurtain.blogspot.com/

When Gaming Becomes Culture

You may or may not have never seen this.

It’s from the ‘08 annual report of Sohu.com. The number is simply crazy.

Remember when the dot com boom crashed, the big three Chinese Internet portal (Sina, Sohu, Netease) almost got delisted from Nasdaq?

You may also like to take a look at Netease [PDF], or Shanda [PDF].

It produced fat-cat CEOs – sometimes really wild, and world-class. Grandpa Deng once said “let somebody get rich first.” His vision has been well realized, but I guess he himself would be surprised seeing what’s happening.

Maybe we should find kids better things to do.

http://icecurtain.blogspot.com/

Shenhua: SOBs, Corporate Governance and Market Economy

This post is on China Shenhua (01088.HK), an energy company and one of the FT/Xinhua 25 index. It’s more about things to consider in investing in Chinese state owned businesses (SOBs) than a stock recommendation.

Introduction

It operates coal mines, power plants, railroads and ports. It mines coals in central China, transports them via own railroads or national railroads to market for sales, or to power plants (most in eastern China) for power generation.

Here’s a list of assets owned.

It’s a really really profitable business. Its 2007 revenue was RMB82 bn (including coal segment RMB56 bn, power segment RMB 24 bn), 50% growth from 2006. Net profit was RMB24 bn. See income statement below.

Ownership

This is the interesting part. The listed company was part of the Shenhua Group, which is a coal energy mammoth with dozens of subsidiaries. Below is part of the org chart.

The group owns 74% of the list company.

The group itself, with RMB411 bn in asset and RMB 141 bn in revenue in 2008, is one of the most profitable state owned business.

Implications

Here’s an excerpt from the 2007 annual:

“The Company’s standard of corporate governance has been recognized in the capital market and the Company has won various awards such as the award of “2006 Best Corporate Governance in Asia” («Finance Asia»).”

To me it’s an oxymoron. For an individual investor, if it’s owned 3/4 by the parent company which is in turn owned by the Chinese government, why is corporate governance even relevant? All you can do is to trust that the parent company (hence the government) will keep it profitable. The good news is such company would rarely bankrupt.

Several implications of the story:

• Market economy

the market economy is this case would hardly work. Suppose you are one of the Shenhua managers (BTW, most of them held government positions) trying to maximize profit for shareholders, you won’t know what to do when the group tells you to pay above-market price for coal purchase, or hold longer for receivables, etc. They won’t do that being responsible, but it’s hard to know.

Or the governments says that you should sell coals to steel plants or power plants for less to help them overcome the economic downturn, since they are also owned by government. It’s socialism at its best.

• Stock market

this also illustrate why some guys advocate government supporting the stock market (though the premise is absolutely false). The Chinese stock market is government-driven, because the government has a lot in it. For stock pickers, it takes a quite different skill set.

• Environment issue

China is short of oil and natural gas but coal abundant and uses a lot of coals for power generation. The immediate issue is carbon emission and global warming, which is also a petroleum problem.

In a market economy, the government would have to adjust the incentives for the economics of the clean energy to work. For example, I seriously think the U.S. should hike the gas consumption tax, like Demark, besides the cap & trade.

The Chinese government, with its immense and somewhat skewed market power, can take a different approach. It’s a much simpler process in China to allocate land for wind and solar sites (the government, hence the people, owns the land collectively), maybe also biomass for incremental power generation. I didn’t do the math, but it would be worth it even with some heavy subsidies to begin such a national industry of tomorrow.

 

P.S. for investment decisions, look here.

http://icecurtain.blogspot.com/

Debt, Growth and Interest Rate

Warning: this is a model.

A note on the relationship of federal debt, GDP growth and interest rate.

The Formulas

1. In the long run, the steady debt to GDP ratio is

Debt/GDP=Rdef/g

where Rdef is the rate of deficit (including interest payment) to GDP; g is the growth rate of GDP

2. In the long run, the ratio of deficit less interest to GDP is

(Def-Int)/GDP=Rdef(1-Rint/g)

where Rdef is the rate of deficit (including interest payment) to GDP; g is the growth rate of GDP; Rint is the interest rate.

What It Says

• The beginning debt to GDP ratio doesn’t matter in the long run
• If there’s GDP growth, debt to GDP ratio always stabilizes in the long run
• The net deficit (i.e., deficit less interest payment) depends on whether interest rate exceeds GDP growth
• If they equal, the net deficit is zero
• if interest rate is higher than growth, the net deficit is negative, or federal spending would have to be less than tax revenue
• The GDP growth rate here is nominal, so that inflation helps

An Example

Suppose the beginning Debt/GDP ratio is 80%, GDP growth 4%, interest rate 3%, deficit/GDP 2%:

Long-term Debt to GDP approaches 50%.

Net deficit would be 0.5% of GDP.

 

http://icecurtain.blogspot.com/

What Mr. Market Says about Citigroup (C)

I did a ballpark (oversimplified) valuation on Citigroup, saying C should be worth more than last Friday’s closing price $1.50. Today C dropped 20% to $1.20, worse than other major banks.

I have to say I don’t understand what Mr. Market is thinking. The dialogue between the conversion scheme and the market goes like this:

The conversion: “We shall convert the preferred shares to $3.25 per common share.”

Mr. market: “It’s a bad deal for common holders. The per common share value should be worth more than the conversion price ($3.25), so that I decide to adjust the market price down to $1.20.”

Dah..

Either the conversion is expected not to go through, or something drastic will happen.

 

http://icecurtain.blogspot.com/

FDIC: Why We Don’t Want to See Massive Bank Failures

If you’re one of the quarter-million north, FDIC should be as important to you as the new budget (for tax reasons).

Introduction

FDIC, or Federal Deposit Insurance Corporation, was created by FDR in 1933 in response to thousands of bank failures. History here.

What it does is that it establishes an insurance fund for customer deposits in the banks, so that even if your bank fails, your deposits are safe. Needless to say, its importance proved vital during today’s bank crisis – what do you do otherwise if you are worried about the safety and soundness of your bank?

When A Bank Fails

FDIC monitors and inspects banks regularly. It’s a huge workload: FDIC insures 8 thousand banks and supervised another 5 thousand.

If you care to know, this is what FDIC does when a bank is insolvent. It takes the bank into receivership, and sell the assets to pay down the debtors, depositors first. It operates based on the least cost analysis. 

An Example

Look at what happened to First National Bank of Nevada. The failed bank had assets book valued at $3.3 billion and deposits of $2.3 billion. The assets was written down by $2.3 billion in liquidation, resulting in a net worth of $-1.6 billion.

But FDIC insured and assumed the deposits, and took the loss.

Is FDIC Safe? 

Facing almost Great Depression 2.0, you have to think about things like this. Here’s some facts:

-FDIC now insures above $4 trillion of deposits, with Deposit Insurance Fund (DIF) balanced at $50 billion.

-All insured institutions has total assets $13 trillion, loans $7 trillion, deposits $7 trillion.

It very much depends on the asset combo and quality of the failed, and the availability of buyers. Suppose it resembles the aggregate balance sheet, loans valued 2 out of 7, other assets 4 out of 6, it will eat out 1 out of 7 deposits. I guess I will call it worst case.

If 5% of banks fail this way (worse happened), it will clean up the DIF.

Though history repeats itself, let’s hope it won’t happen again.

 

http://icecurtain.blogspot.com/