Archive for the ‘Financial Collapse’ Category

The Hopelessly Naive Auto Task force

Monday, June 1st, 2009

So much to say so little time.

Bloomberg has a blow by blow story of how the Obama Administration concluded that GM Must Go Bankrupt.  The people on the task force are the same Harvard MBA types that have destroyed the U.S. Radio business – believing that businesses are run by free cash flows, leverage ratios and LIBOR interest rate swaps – get the numbers right in the spread sheets and your job is done .

My ire rose to the level to write this when I read “One member of the task force said he was surprised to learn that Japanese manufacturers can charge more than GM for a similar car because of their superior brand image.“.  Oh God, We’re all doomed.  How could someone involved in deciding the future of the car business and firing Rick Wagoner be so completely ignorant of the underlying business problems?

This is not a new observation.  When Ford and Mazda created their joint facility in Flat Rock, Michigan (1987) and GM and Toyota formed the partnership in Fremont California.(1984), both companies learned (or should have learned) a very important lesson.   The same plant with the same workers using the same parts producing essentially identical cars – people waited in line to buy the Japanese version and you couldn’t give away the American version.  This is 25 years ago.   If you don’t figure out why that is, no amount of “government backstopping” is going to turn the company around.   They should have started by spending a weekend speed reading “The Decline and Fall of the American Auto Industry” by Brock Yates.  [See what he is saying lately [here]).   While the car companies and their products have improved since the 1980s, you aren’t going to fix their problems until you ask the right questions.

There are two basic trains of thought on why this “brand image” problem persists.  One version is that prior to the arrival of serious foreign competition, GM, Ford and Chrysler produced cars that were increasingly cheap shoddy, unreliable, and poorly engineered and resisted any change to improve the technology, like radial tires, fuel injection, overhead cam engines, turbochargers, electronic ignition, antilock braking, air bags, catalytic converters, etc…   and cars were designed to wear out the day the warranty ran out.   People’s perceptions of “American” cars are that they are shoddy pieces of crap – even if they aren’t.  Once people believe you make junk, you won’t get a second chance….  and people talk to each other about their experiences…. and Consumer Reports systematically documents that you’re selling crap.  And Oldsmobile tries to create a diesel engine from an old Gasoline engine block, and then tries to run away from the disaster they created.

The other train of thought is that the issue has less to do with the cars than with the dealers and the “screw the customer” corporate culture.  Even if people understand that the Toyota and GM car were made at the same plant by the same workers from the same parts, they’ll pay $1000s more for the Toyota because they trust the dealership.  With the companies shifting corporate profits to the financing arms (so they can claim to the UAW that they’re losing money by making cars), the profit was in the financing, not selling the cars – dealers had any number of strategies to cheat the customer.  

One heard over and over on Clark Howard and Tom Martino’s radio shows follow the same basic script.   I went in to look at cars.   They sold me a car and told me a monthly payment and we signed a contract.  They told me to take the new car home and come back tomorrow to finish up the paperwork.  Tomorrow comes, and the dealer declares that unfortunately, the financing didn’t get approved because their credit isn’t good enough [which of course the dealer knew when they pulled the credit report], so the buyer doesn’t qualify for the interest on the contract (which had in small print “Subject to Credit Approval”).  So sorry for the misunderstanding.  So the payment is going to be *way* higher than the amount that was agreed to.   When the buyer says they want to back out because the dealer didn’t honor the agreement, the dealer informs them that unfortunately their old car has already been shipped out of state, and it isn’t possible to give them their old car back, so they can sign the new paperwork or take the dealer to court and sue them to try to get their old car back.  In a year or so, the buyer can’t afford the higher payments and the car ends up being repossessed.

Do that once and you make yourself some extra money…. but it guarantees that person will never ever buy a car from your company again.   Nor will anyone who ever hears that story.   The perception is that this isn’t a rogue dealer here or there, but a systematic way taught at Car Dealer School to screw the customer.  And this is only one of the strategies, let alone what the Repair Department is going to do to you for the next 5 years.

The basic conclusion of the Auto Task force about the way to ‘close the gap’ on the price gap between the GM and Toyota is to shut down GM dealerships and make it harder to get to a GM dealer and negotiate with more than one of  them    Only a Harvard MBA could come up with that as the solution (or a Detroit area GM car dealer).  Don’t they know you can now negotiate and buy the car on the internet, and merely have it delivered to the local dealer for pickup?

I wish some enterprising reporter would interview the members of the Auto Task force and ask them:

  • Do you drive yourself to work in a car you pay for?
  • Is it an “American” Car?
  • When is the last time you personally bought a car from a dealer?
  • Did you finance the purchase or pay cash?  Did you pay list price?
  • When your car is in the shop, do you go to the dealership or does someone else do that for you?

Congress chastised the U.S. Auto executives for flying to Washington on a private plane and being “out of touch” with what real people have to deal with.   The same standard needs to apply to the Auto Task Force.  And ask President Obama if you can see his Driver’s license and what kind of car he drove before becoming President.   And spend an hour asking Brock Yates what his opinion is.

*** update ***

The New York Times has aa [profile] of the 31 year old man who had never been inside a car plant, that is the member of the Auto Task force deciding how to dismember G.M.  So that partially answers the question – he was 6 years old when G.M. learned what he just found out.

The Other GM Shoe – unemployment insurance

Monday, June 1st, 2009

Back when I was working for GM (not as an employee – as a contract person), I learned a number of curious counterintuitive things – like people with seniority wanted to be laid off first during slow times.  Doing so, they would get 90+ percent of their pay and continue to vest in their pensions, then could work “off the books” doing construction work for cash or just tour the country in a motor home on an extended vacation.  The low seniority people were the ones who had to show up for work and make the cars.  It wasn’t called Generous Motors for nothing.

Another quirk was that the State of Michigan gave GM special exemptions on how Unemployment Insurance is supposed to work.   It’s a bit complicated, but there is a state and a federal fund with different sources of money.    The basic principle of funding is that each employer keeps a “balance” in the fund – how much they’ve paid in, and the amount of benefits paid out.  If a company gets in a deficit position, their contribution rate goes up to help rebuild the fund.   Other employers temporarily are subsidizing the ones (like GM) with lots of unemployed workers.

Well, GM had incorporated Unemployment Insurance into their business model.  When GM didn’t need all its workers, it would lay them off and let the State pay them.  Normally doing that would risk that those employees could drift away and when GM needed to restart the line, it would have to rehire and retrain people – so their agreement with the Unemployment folks was that GM workers collecting unemployment were NOT required to look for a new job to keep getting the check.  [Yes, I know that is a scam too] The Fund just became a way to subsidize GM at the expense of other employers.  Michigan didn’t want to lose GM, and many of those other businesses were indirectly in business because of GM so they were not in a position to complain.  This was in the 1980s, and also unemployment benefits were taxed differently than today.

Since GM will be declaring bankruptcy and shutting a lot of plants, those GM workers will be on unemployment for a LONG time, with no real assurance that GM will ever be in a position to pay back into the state uninsurance funds – especially in states where GM is going to shut down its only facility.

Look for a bunch of State Unemployment Funds screaming “we’re out of money” (It’s already started because the condition of the economy in general).  Not only are people collecting unemployment, but a lot fewer employers are paying into the fund.  Look for demands for a Federal Bailout  (did you read that IRS taxes paid in April were down 36% year over year?… yet Bloomberg and the economists think things are about to “turn around”)

In the spirit of just making problems worse, the Democratic party solution to this is to always feel compassion for The Worker – by extending unemployment so long that people forget what it is like to work.   Other employers become so burdened down with the costs and the artifically high costs of labor that they shut down or move to other countries to get out from under.

Do what you’ve always done, you’ll get what you always got.

$582 Trillion

Thursday, May 28th, 2009

$582 Trillion.   That’s about $100,000 for every person on the planet.

That’s the amount of the leverage hanging over the heads of the world.   It is the face (notational) value of the sum of all of the unregulated derivatives.   Every radio company owner that I’ve looked at so far (those not privately owned) have used short term variable rate LIBOR credit facilities – with interest rate swaps derivatives to protect them from an increase in LIBOR.

One of the problems with things like Interest Rate swaps are today they are 1 on 1 contracts.  There are theories about how you figure out the value of an interest rate swap at a point n time, but there is no liquid market to prove what it is worth.   Typicaally you bought them as a condition of getting the credit facility, and you had to buy it from the same folks.  Interest rate swaps being 1 on 1 contracts have couterparty risk – if the bank (or insurance company) that sold you the interest rate swap goes under (AIG, for instance), you’re 100% screwed.

Tim Geithner is doing one thing right, but whether it works or will just speed the collapse is not known yet.   He wants a publicly traded liquid market in interest rate swaps and other derivative instruments.   (by proposing this as his project, he’s stepping all over the toes of the CFTC, and to a lesser degree the SEC).  It’s a pretty naked power grab.

If interest rate swaps become a standard commodity (I’ll trade you LIBOR vs 4% for 5 years), then it takes the guesswork out of how much leverage is out there and how much the contract is worth at any point in time.   A key part to a commoditized financial product is that you get rid of the counter party risk.  Instead of your contract depending on 1 company, all of the people involved in the marketplace pool their assets  to guarantee all trades.   You can’t play the game if you can’t prove you have the resources to back up your trades.  If one of the companies fail, all the other players agree to absorb their loss.

Either Geithner is a brilliant man who is going to save the world, or he is incredibly naive and leading us right off the cliff.   I think we’ll know shortly which he is.   I don’t see how you get past the fact that one party to the transaction introduces risk via their credit risk, but maybe I just don’t understand it yet.

Belling Geithner’s cat

Wednesday, May 27th, 2009

Perhaps it is better to not think you know what is coming.  Everyone who has had even a 1st year economics course knows you can’t monetize debt and not have consequences.  

The FDIC is out of money.  The banks (other than the “too big to fail” money center banks) are really pissed.  Geither has used the money they’ve been paying into FDIC for 50 years to bail out American Express and Goldman Sachs, who never paid a penny into the FDIC.  The FDIC wants to surcharge all of the country’s banks to build the fund back up.  The banks (via the ABA) are actively opposed to that plan.   Geithner’s plan B is to let the FDIC borrow $100 billion from the US treasury to keep destroying the banks he designates as the next target.  

Geithner has been threatening banks with seizure if they don’t cooperate with him.   Ben Bernanke does not run the Federal Reserve, the Board does.    The regional banks are controlled by their member banks.   People who run banks are smart and they are probably the only ones that have the power to “bell the cat”.

Tim Geithner has convinced current Fed Chairman Ben Bernanke to buy up  debt that Geithner needs to sell to finance the explosion of spending needed to fund the Geithner $700 billion fund to destroy all businesses.    If the Federal Reserve wasn’t cooperating, Secretary Geithner would have to sell US Treasury Bills (less than a year), Notes (1-10 years), and Bonds (10-30 years) .  For the government to acquire more power without the consent of the taxpayers, they have to borrow money from somewhere else.

In an unguarded moment (translation: no teleprompter), President Obama told the host on C-SPAN that the government is out of money.   [The dimwit host had reversed debt and deficit in his question, but at least he got a useful answer]. 

Well, we’ve reached the point that Geithner is losing control of the Bernie Madoff like game he has been playing.   People are not showing up to buy the instruments.  Bond Rating agencies are sending signals they may need to  downgrade US treasuries. 

Coercing the bond holders at Chrysler to surrender their “first in line” status in favor of the UAW will destroy the Bond market if this is allowed to stand.   Those bonds are held by folks like Pension Funds and Insurance companies that are holding annuity money.   If one person can wave his hand and make 400 years of commercial law “go away”, the entire system is doomed.   They cannot let his action stand.   It has turned into “it’s us or them”.   (Obama+Geithern vs capitalism).  Only one is going to survive.

This week’s competitive bid auctions are finding lenders wanting a higher interest rate from the US Treasury.    China seems to be looking to B razil as a place to start sending its investment money.  The market interventions of the past 8 months by the world’s central banks has been to try to force interest rates down to zero, because there is a huge consequence to interest rate swaps and LIBOR based credit facilities if the interest rates go up. 

All it’s going to take is one big event – like the government in Pakistan falling, Iran and Israel exchanging weapons fire, or South and North Korea turning into a hot war, and all bets are off.  The GM bankruptcy itself may be enough to start the chain reaction (since we’ve known it’s been coming for 6 months, proabably most people have already taken evasive action wtih GM).  The U.S. dollar has also been declining over the past few weeks – so be cautious about interpreting the stock market going up as meaning anything.    The two forces cancel out each other (for those people whose assets are not in U.S. dollars)

I wish I had a magic bag of pixie dust to spread around and make this all go away. 

Here is the [Bloomberg Story] today that provoked this rant.

[New York Times] is raising the alarm, too.

The LIBOR time bomb

Saturday, May 16th, 2009

Tick…  Tick… Tick….

Tim Geithner has stated that the Federal Reserve’s low interest rates starting in 2003 (Geithner joined the NY Fed in 2003 – coincidence?) is the root cause of the current problem.

Having spent the last week devouring 10-K statement for all of the major radio companies (and it’s probably the case for most Amerian businesses), that definitely looks correct.

It goes something like this – back in the “good old days”, if you were a business and wanted to raise money to build a new factory, you had basically two options – sell more stock in your company, or borrow money by selling long term bonds.

Selling bonds meant a long term obligation to make cash profits from your new factory to pay back the loan.   Raising money by selling stock didn’t commit you as strongly to paying cash for the money on a regular basis, but if your earnings didn’t increase over time, the value of your stock would be diluted and the stock would perform worse than your competitors.

Enter the Federal Reserve flooding the credit markets with very low cost money.   This was George Bush’s doing in cooperation with Alan Greenspan.  Following 9/11, the Bush administration felt a need to use government money to prop up the economy.   (outside of New York City, 9/11 did not cause a big “hit” on the economy).

The consequence of this unneeded intervention in the economy was that given the choice of continuing to pay 13% on junk bonds or pay 2% to an investment bank (which was getting its money from the Fed), that’s a “no brainer”.   Companies could drastically reduce their interest expense by swapping out their long term fixed rate debt with floating rate cheap money.  Unforunately, people who don’t use their brain do stupid things.

The quick fix has a huge down side however (the same one hitting the residential mortgage market).  Even if you had to borrow expensive long term money, you could budget cash flow out 10 years (or whatever the term of the bond is) and make rational investment decisions.  Funding capital assets with short term variable rate money is very short term smart and long term stupid.

To try to mitigate that risk, companies (sometimes as a condition of the LIBOR credit facilities) purchased LIBOR/Fixed interest rate swaps.  The swaps protect the company from the probability that sometime in the next “x” years, that very cheap LIBOR money is going to get more expensive.

That’s exactly what happened in September 2008 – With the failure of Lehman Brothers, reality set in.  An Interest Rate swap carries the risk that the party that sold it to you could go out of business (as Lehman did) and leave you holding the bag.  Who insures the insurer?   There is no such thing in life as “no risk”.

Overnight, LIBOR shot up from like 1.2% to 4.5% in a single day.  Had that not been stopped in its tracks, everything based on LIBOR would suddenly become very expensive and anyone who had sold hedges (interest rate swaps) was going to quickly become insolvent causing other sellers of swaps and lenders with LIBOR based loans to fail.  

So the central banks of the world all turned on their fire hoses to flood the global economy with even more cheap money.  They’re trying to put out the fire by flooding it with gasoline.

This can’t last.  At some point, LIBOR is going to zoom back up to the real cost of money reflecting the actual risks of the borrowers.   When it does, companies that borrowed long term money from the short term market will fail.   Companies (or government agencies who didn’t know what they were doing)  that have sold interest rate swaps will fail.

Geithner and Rose – Part 2

Tuesday, May 12th, 2009

Secretary of the Treasury Timothy Geithner – formerly the head of the powerful New York branch of the Federal Reserve – had another hour long interview with PBS’s Charlie Rose last week.

The Wall Street Journal offers their opinion [here].

Charlie asks Tim Geithner why things went so wrong and what mistakes were made along the way.

Geithner’s response is a bit muddled.   He blames it partially on lax regulation of banks that were taking on too much risk (note: AIG is not a bank).   While not letting the U.S. off the hook, he does suggest that low interest rates caused the global economy to chase and leverage risk because so much money was available at such a cheap rate.   [Most people agree on that]

Since money could not be parked in US Treasuries and earn reasonable rates, that caused the global investment community  to rush to invest its excess dollars (being generated by the Fed) in riskier and riskier  investments like mortgage backed securities and hedge funds that “invested” money with Bernie Madoff.  The easy availability of cheap mortgage money led to a building boom of housing that wasn’t needed, an influx of construction workers from Mexico to build them and a run-up in housing prices.

He gets specific at blaming that part of the problem in the Federal Reserve’s actions from 2003-2005.   Tim Geithner joined the Federal Reserve in 2003.   Alan Greenspan was the head of the Central Bank, of course.  Probably the unspoken subtext of that statement is something like “We spent a lot of money on the War in Iraq but George Bush didn’t want people to feel the pain of paying for it – so the Federal Reserve “cheap money” policy paid for the Iraq war”.  [Did George Bush ever fight a spending measure of any type in his 8 years in office?]

What is interesting (and alarming) about this revelation is not that he is “owning up” to the Federal Reserve’s role in creating this mess – but that while describing easy availability of credit and low interest rates at the Federal reserve as the problem, he and current Federal Reserve Chairman Ben Bernanke are advocating exactly the same thing as the solution!

To “liquefy” the credit markets, Ben Bernanke in cooperation with Tim Geithner at Treasury have “monetized” about $1 trillion (so far) by creating “fiat” money – the Federal Reserve just creates money and loaning it to the US Government, which is now going to turn around and spend it.

The reason creating fiat money was necessary is that the US Treasury can’t find people willing to buy US Treasury instruments at the extremely low (close to zero) interest rates.    The only way to keep attracting dollars to the US Treasury (if there are any) would be to raise the interest rates we pay.  A lot.

If the Federal Reserve slammed the money creation door on the US Treasury, it would be VERY ugly – but that’s the only thing that will turn this problem around.    If the Federal Reserve didn’t fund wasteful government operations with new dollars, here are few of the logical consequences:

  • Interest rates – short term and long term – would shoot up
  • With the US paying higher interest rates, the US dollar would strengthen against other currencies
  • With the dollar going up in value, the price of oil would drop
  • People with money to invest in Treasury Securities or things like CDs based on Fed interest rates would earn more return on their life savings now languishing in money market accounts
  • LIBOR – the interest rate behind most of the world’s investments would go up drastically.   Companies and individuals with borrowing tied to LIBOR would be in serious trouble (as they should be)
  • Entities that sold LIBOR interest rate swaps would be in very serious peril (as they should be)
  • If the LIBOR interest rate swap market falls apart (it will), entities that agreed to loan money because they were protected by an interest rate swap hedge will be in serious trouble (as they should be)
  • The higher value of the dollar would cause U.S. exports to become more difficult to sell, but lower the cost of imported goods and commodities.

Businesses that built their growth on easy credit will fail – those who built on earning money by creating a useful product and hoping for a reasonable rate of return would survive.  Those businesses would be the ones to pick up the pieces of the rubble and start over.  Hopefully there are a few of them left.

Someone HAS to say “No” to the Obama administration’s plan to spend its way out of this problem with fiat money.   Is Timothy Geithner man enough to “bell the cat”?

When a heroine addict stops putting a needle in their arm, there IS a risk that they will die.  It is guaranteed that things will be extremely unpleasant for a while – but it is the only solution to an addiction.    Back at the very beginning of this unwinding, Glenn Beck made the statement (which he hasn’t repeated that I’ve heard) that this problem is only going to be solved by an alcoholic – someone like him.    He sees a clear pattern of people rushing in and “enabling” the addiction to continue, thinking they are being compassionate – but all they are doing is deepening the addiction and the pain at the bottom.  It’s time to confront the truth.

Coming down off the “Easy money” high is the only way out of this problem, but nobody in government is prepared (yet) to risk the consequences.  (bankruptcy, mortgage foreclosures, high unemployment, financial collapse of state governments, massive layoffs of government employees, etc…  It could lead to a second Civil War and social unrest on a scale this country has not seen for 140 years.  A lot of people could die.   This scenario may  happen no matter what the Federal Reserve does.   The longer this charade continues, the more likely that becomes the outcome.

The first Charlie Rose hour long interview with Timothy Geithner is [here]

This current hour long interview is [here], or if you only have the time or patience for the edited version, a 6 minute highlight is available [here].  The highlight reel does not have the comments the WSJ is writing about.

The biggest disconnect I heard was when Charlie asked about the small banks who want to return their TARP funds and not have the Federal Government regulating what they pay their mangement.  Geithner said that he expected the SEC would handle that issue.  Note to Tim Geithner:  SEC has no regulatory role over corporations that are not publicly traded on a stock market.  The Federal Government has no say in how much a privately owned bank pays its executives.

Bankruptcy Watch – Filene’s Basement

Monday, April 27th, 2009

According to Bloomberg, clothing retailer Filene’s Basement is preparing for bankruptcy.   The company had previously been through bankruptcy in 1999, and is currently owned by a company that specializes in liquidating companies, so this isn’t a huge surprise.   They do intend to try to renegotiate leases with the shopping centers where they are located – which might further push some shopping center operators into problems.

Bankruptcy Watch – GM

Monday, April 27th, 2009

GM is peering over the edge of the brink of default now.

GM presented its final offer today.  90% of the bondholders must accept their final offer or they go into Chapter 11.   Liveblogging comments are available here

Regardless of whether the company goes into bankruptcy, Pontiac is history.  (I bought an Oldsmobile about a week before they dumped that brand in 2001 – and my car dealer is long ago out of business – the Chevrolet dealer who last repaired my car is also now out of business).

Hummer is going to be sold off,  Saturn – which was going to be GM’s prototype for the future way to do business – is going to be shut down unless they can sell it.

The interesting question from the news conference is – some of the bondholders surely have credit default swaps that will be triggered if GM files chapter 11 – so the bondholders are motivated to vote against the plan, which will trigger the CDS and the lenders get their money back.

Looking forward to the next question, which companies are on the hook having sold those GM Credit Default Swaps – and will they fail when they have to pay off on the bet?   Or are they companies like AIG already on the Geithner bailout bandwagon?

This Bloomberg story contains a quote from a bond analyst in Vermont says the plan seems to be designed to ensure that it fails.  If adopted, GM’s common stock would be 89% owned by the UAW’s health insurance fund, the bondholders would have 10% equity, and the current GM stockholders would have the remaining 1%.

GM employee 401(k) plan sells all 75 million shares of GM

Friday, April 24th, 2009

Detroit News Story

The trustee of the GM Employee 401(k) plan has dumped all 75 million shares over the past 3 weeks for under $2 a share .  That leaves very little doubt that GM is going into bankruptcy.

– If this was done based on knowledge of a definite decision to proceed with bankrupcty, someone is in serious legal jeapordy.  It seems unlikely they aren’t aware of the situation and the law.   Trading on non-public information is a crime called “insider trading”.   “Tim Geithner told us it is okay” is not a legal defense.

– if your employer holds much of your 401(k) plan in company stock, you’re working for a bad employer.  GM (until recently) required 1/2 of all 401(k) contributions to be in GM Stock.

Bankruptcy Watch – Charter Cable

Friday, April 24th, 2009

Charter is already in the bankruptcy process – so this isn’t about a new bankruptcy.

According to the International Business Times here, Charter’s plans to get in and out of bankruptcy fast have run into a snag. Wells Fargo and JP Morgan have both objected to the “quick prepackaged bankruptcy” and will not agree to it.

Are you listening Tim Geithner? GM? Chrysler?

Seeing how the CEO of Bank of America is being treated now for “going along with the government”, look for a lot more resistance to being told by the U.S. Treasury “the way things are going to work”.

It’s possible that a US Bankruptcy judge may have more power than the U.S. President.  Perhaps people working at the Federal Reserve bank didn’t know that.