World main economic blocks balance sheets (attempt)

Here is something I would like to complete...
It is an attempt to model the world's main economic blocks balance sheets.

By economic blocks, I mean:
- US/EU/JP/China/etc households
- US/EU/JP/China/etc corporations
- US/EU/JP/China/etc governments

The objective is to have the big picture on:
- who are the biggest economic actors? and how they compare?
- who is overleveraged? and potential consequences?
etc.


Here is my first draft.
I welcome any input, as I find it hard to get and verify some of the information.

Jim Cramer calls the housing bottom but forgets to mention Robert Toll is selling

Jim Cramer should have mentioned that Robert Toll is currently selling his shares of Toll Brothers.

Inestors beware.
Shame on Jim Cramer for this one.

Accounting made in USA - a cartoonist nailed it

source: http://immobilienblasen.blogspot.com/2009/04/emporer-has-no-clothes-but-who-dares-to.html
Thank you

Great interview with Dylan Ratigan

Great interview from Dylan Ratigan.

http://www.fedupusa.info/Dylan_Ratigan_Interview

President Obama, please listen to it.

(I think President Obama reads my blog)

KB Home short squeeze deja vu

the current rally could be a short squeeze, and it has the look and feel of the september 2008 rally...

US Homebuilders seem largely overvalued to me

Some points I would like to make:
- US homebuilders had a huge rally, and are now valued as much as they were a year ago sometimes.
- few bloggers mention it,
- it seems financial newspapers are not even interested to mention this, being too busy reporting about "green shoots" and recoveries, and Obama´s confidence,
- and very few people remind investors that homebuilders face a very tough market. US foreclosures are higher that last year. Housing prices are lower than last year and prices are still dropping at high speed. Unemployment is up and going higher. US households have lost 20 to 25% of their net worth since a year ago.
And some insiders are selling like mad: see Toll Brothers CEO insiders´trades.
I think it is a scandal that this CEO can get away with this kind of behavior without being called for it by mainstream media. When will CNBC, Financial Times, WSJ do their work?
This CEO should be invited asap by CNBC, Fox news, and grilled on why he has been selling shares of his own company for the last 2 years.

I see no fundamental explaining the rally in homebuilders.
The only reason the rally could continue I believe, would be short squeeze, or continued irrational rally...

Disclaimer: some short positions on US homebuilders.

Citigroup (NYSE:C) and AIG (NYSE:AIG)- short interest building up again

source: bigcharts.com

It seems the short sellers are choosing their preys right now. C and AIG are clearly among them.

After AIG political fiasco (with their wonderful idea of giving bonuses), I believe there is little chance the shareholders will keep a dollar.

Deutsche Bank (NYSE:DB)- short interest is building up

source: bigcharts.com

Microsoft (MSFT) market capitalization back to 1997 level

MSFT market capitalization is currently at less than $148 billion.

According to this article from the New York Times dated June 1997, the market capitalization of Microsoft at that time was $142.8 billion:

"But Microsoft's closing share price yesterday was still a remarkable 45 times estimated fiscal year 1997 earnings of $2.63 a share, giving the company a market capitalization of $142.8 billion."

And a few months later it went above the current $148 billion.

The big difference is that the earnings are today much higher. Of course the earnings in the next 2/3 years might not stay at 2007/2008 high level, but the future still looks good for Microsoft in my opinion.

My take on the US housing plan

I am no expert but what I can see is:
- taxpayers will have more to pay,
example here:
"the government and Investment Bank share the cost of further reducing the interest rate so that the Family C’s monthly debt-to-income level is lowered to 31%"

- I do not see specific details on how the government will implement this plan so that speculators will not benefit from it.
The example sheet has three examples, all leading to a refinancing. There is no example of how the plan will handle someone who would not deserve to be helped by tax payers.

So the general idea seems kind (to help families facing difficulties), but what if half the money goes from the pockets of "reasonable" families (taxpers who did not buy houses) to "irresponsible" people who were gambling in the housing market?

The white house housing plan debate

The plan seems to be here.


Here is a link to the White House reaction to Rick Santelli´s rant.

Also interesting is this reaction:

I guess we will all have to make up our mind.

Can´t trust anybody these days.

Excellent interview from Chris Whalen

You can check it out here.

First time I see him in interview and he is very clear on what needs to happen and the extent of the potential losses as Citigroup, Bank of America, Wells Fargo/Wachovia, and JP Morgan.

His idea of receivership "a la WaMu" sounds good and realistic. It is the first time I hear someone who is realistic about the situation, and offers a clear path. Of course it´s a painful path, inclduing for bond holders: this 50% haircut on Citigroup bond holders, that will raise some fear to the bond holders. But it´s this or the american taxpayers take the costs.

The Wells Fargo case

I find the case of Wells Fargo (WFC) very interesting.



Yesterday we learned that Warren Buffet has been selling 0.1% of his stake in WFC.
Check it here.
Berkshire Hathaway stake in WFC decreased "to 290,244,868 shares from 290,407,668 shares".



Why sell 0.1% of his stake? It is such a small stake.
Is Warren Buffet currently trying to sell more of his shares?




It will be interesting to hear more on this from Warren Buffet.



Also at least four people, who's opinion I value quite a lot as well, being seriously doubtful or simply bearish or short on WFC:
- Mish (Shedlock)
- Reggie Middleton
- Nouriel Roubini
- Bennet Sedacca



Mish: here




Nouriel Roubini: here

"Today Citi and Bank of America clearly look like near-insolvent and ready to be taken over but JPMorgan and Wells Fargo do not yet. But with the sharp rise in delinquencies and charge-off rates that we are experiencing now on mortgages, commercial real estate and consumer credit in a matter of six to twelve months even JPMorgan and Wells will likely look as near-insolvent (as suggested by Chris Whalen, one of the leading independent analysts of the banking system)."



Bennet Sedacca: here

As Bennet Sedacca pointed out: "Alt-A is likely our next very big problem, which could pose a large problem for Wells Fargo (WFC) which inhaled $130 billion of Alt-A from Wachovia."





Disclosure: short WFC

Could it be that the banks "supported" this rally?

The rally of the last 4/5 days seemed to have "priced in" a lot more good news than it got today from the US Treasury.

Could it be that the banks "supported" this rally because they thought the Obama administration would be too scared to disappoint the market?

Sugar still going up

Silently, sugar is going up since a few weeks.

Sugar is up 17% over the last 12 months according to ft.com. See it here.

So much for all those who call the end of the commodities bull market.

How much damage can Ken Lewis still do?

Article and video interview of Bank of America CEO here.

Ken Lewis offers no mea culpa for overpaying for Merrill Lynch.

What was the rush to buy it at that price the interviewer asked. Oh, other people wanted to buy it ! Great.

And worse: he states he will not need more TARP money.

How long will he stay CEO ?

How much damage can he still do to BoA shareholder´s and taxpayers?

He did not see anything coming. How is he supposed the know the next problems?

Obama about to disappoint (me)

All the bad apples are rising:
- zombie financials: JPM, BAC, WFC, C, etc.
- and overbuilders: TOL, LEN, HOV, PHM, etc.

All these stocks are up 10 to 20% today.

If these are the companies who will benefit from the US administration stimulus, then it is really disappointing.

Bad economics as Jim Rogers would put it.

This would be supporting two industries that have inflated and led us to this mess. These industries benefited during the boom and can now afford lobbyists, and strong political backup it seems.

Not only these folks have their pockets full, they will now keep their jobs even longer.

I recommend Mike Morgan´s post. He seems even more disgusted than I am.

Ambrose Evans-Pritchard and the US homebuilders stocks

In this article, Ambrose Evans-Pritchard uses some weak reasoning:

But it is telling that the shares of builders D.R. Horton, Toll Brothers, and Lennar have begun to rally. The ITB builders share index has risen 45pc from its nadir in December.

I would argue that the ITB went up more than 45% at least two times in 2008:
- from 11Jan08 to 01Feb08,
- from 11Jul08 to 19Sep08.



What did it prove? Nothing.

Let's not try to learn information from what these stocks do. This is reasoning backwards.

The market is just moody, and the market can be wrong.

Oil left per person in the world - 1950 to 2036

Great interview of Meredith Whitney

A great interview.
As usual, Meredith Whitney is very clear and makes a lot of sense.

Includes a very good (because simple) explanation of the shadow banking system.

Citigroup and Bank of America shareholders, beware

Citigroup is down 48% year to date.
Bank of America is down 66% year to date.



Speculators are betting on the US government soon taking action on those two companies and wiping shareholders.
Beware. This smells like what happened to Fannie and Freddie beginning September 2008.
Why would anybody keep shares of those companies today is beyond me.



Once again this temporary situation is disgusting, with speculators who can basically short the stocks and wait that the government wipes out the equity.



Will the government take over any other company ?
JPM and GS seem to hold.
WFC stock has suffered a lot since the beginning of the year. Though it´s hard to imagine that Wells Fargo would be taken over by the government. This is Warren Buffet´s turf.



And how many times are we going to see this scenario again ?

"Made in USA" is back

With the US Treasury complaining about the Chinese currency being overvalued, it becomes clear the USA desperately need more jobs; export jobs.

I guess there will be in the future a competition for manufacturing and exporting.
USA needs to promote its products.

I bet we will hear about products "made in USA" more and more.

Bullish on Oil for the long-term (10 years)

Some key points:

1. Oil is currently a cheap source of energy (ie power)
The amount of energy available from oil, and what you can do with this energy, are cheap relative to other forms of energy sources (coal, horses, human power).

From a post from Gregor.us ($34.00 was the price of the barrel of oil at the time of the post):

"34.00 dollars buys you 1700 kw hours of power"

2. Oil supply is finite

2.1 Oil left in 2004

-> From the CRB Commodity Yearbook 2005, I get the following data:

"The world has produced approximately 650 billion barrels of oil, but another trillion barrels of proved reserves have yet to be extracted."

2.2 Oil left in January 2009 - estimation

Considering the oil consumption of about 30 billion barrels per year since 2004, the updated figures would be:

- amount of already consumed oil: 770 billion barrels,
- amount of proved reserves still to be extracted: 880 billion barrels

Considering a flat consumption of 30 billion barrels per year, this would mean we have 30 years left of oil.

This is clearly a very rough approximation, but considering all the unknowns (global economic slowdown in 2009 and forward, China economic growth, India economic growth, etc), there is no way anybody can claim much accuracy on such forecast.

From wikipedia page on Petroleum:

"At current consumption levels, and assuming that oil will be consumed only from reservoirs, known recoverable reserves would be gone around 2039, potentially leading to a global energy crisis."

2.3 Oil left in January 2019 - estimation
Now, let´s see the picture in 10 years:

Considering the oil consumption of about 30 billion barrels per year since 2009, the updated figures would be:

- amount of already consumed oil: 1070 billion barrels,
- amount of proved reserves still to be extracted: 580 billion barrels

Considering a flat consumption of 30 billion barrels per year, this would mean we would have at that point 20 years left of oil.



3. More people, less oil
Consider the following data:

Year World population Barrels of oil left Number of years of reserve left
2004 6.3 billions 1000 billions 34
2009 6.7 billions 880 billions 30
2019 7.0 billions 580 billions 20

Assumptions:
- consumption stable at 30 billion barrels per day,
- world population growth of 1.3% per year;

With such kind of assumptions, you can rapidly draw a graph that looks like this:



Now at which point are people going to panic ?

Imagine it is 2019, you are 30 years old, and you have a family with 2 kids. There are about 7 billion people on the planet; but only about 550 billion barrels of oil left (only half what there was in 2004). You hope you will live until 80 years old, and you children will live also until they are 80 years old. Now it becomes a certainty that you and your children will live through the end of the proved reserves of oil. What do you do? Are you going to buy some oil to secure your family's share of oil? Or will you wait?

Imagine you wait.
It's now 2025. There are 8.4 billion people on the planet, and only 370 billion barrels of oil left, which is enough for just the next 12 years. What do you do then? Can you afford as much oil as you could in 2019?

Attempt to assess the US Government Balance Sheet

1. No official balance sheet ?
A google search on 'US Government balance sheet' returns many results, but I could not find anything that looked like an official US Government Balance Sheet. If you know more about this, do not hesitate to post some comment. I´d be happy to learn more on the subject.

According to this page, "the government has no accurate balance sheet of what it owns and what it owes".

So far, I can find NO official balance sheet of the US Government.

2. Debts (liabilities)

2.1 US Government Debt latest number
The official page from the US Treasury:
http://www.treasurydirect.gov/NP/BPDLogin?application=np

The debt of the US government is well documented.
See here for some input:
http://en.wikipedia.org/wiki/United_States_public_debt
http://www.brillig.com/debt_clock/

It is agreed by most sources that the US government debt is currently around $10.6 trillion. In the diagram below, I used the figure $10 trillion for convenience although it is not completely accurate.

Though it is important to note that some of the US Government obligations are not part of the official debt:
- Fannie Mae and Freddie Mac on- or off-balance sheet obligations are about $5 trillion. Would these agencies become insolvent (which I think is most likely), and the US Government would have to fill the gap. Therefore these are additional off-balance sheet liabilities.
- some of the guarantees made during the financial crisis of 2008 are also not part of the official debt, and therefore are potential off balance sheet liabilities.


2.2 US Government Debt in the past

Paul Kedrosky has a post about the public debt, where he shows the following graph from Martin Wolf at the FT:

The US Government public debt is currently at 75% of US GDP.

3. Assets
The most interesting input I have read or heard about the US government assets came from Bill Ackman in an interview by Charlie Rose on 11th November 2008.
The video interview can be found here. A transcript of the interview can be found here.
The part I am interested in for the topic of this post is the following quote from Bill Ackman:

"The U.S. government is incredibly solvent. People get concerned about an extra trillion or two of debt. That’s a very big number, but you have to remember that the government owns 35 percent of every corporation because they have taxing power. The government owns 40 percent of every wealthy individual’s earning power. That’s a big off-balance sheet asset."

I guess these "off balance sheet assets" are the main reason why so many investors still buy US Treasuries.

4. Temporary conclusion

So far, everything I could gather is summarized in the following table:

I do not know if the equity (or net worth) makes any sense for a government. It is not like it´s for sale, is it?


Nevertheless, this diagram is at first attempt a figuring the balance sheet of the US Government.
A next step could be assessing the "off-balance sheet assets":
- the 35% of US corporations can be assessed; they are partly in stock market, partly privately owned.
- individuals earnings power is more tricky I suppose. But surely a figure could be given, just like a stock price is an assessment on a company future earnings.



5. Some additional opinions

- Ron Paul thinks the country is "broke"




- Bill Ackman thinks the US is "solvent"



6. The future of the US Government balance sheet

The years ahead seem to promise:
- growing liabilities,
- decreasing assets, at least for few years, due to reduction of corporate earnings, rich individuals incomes, etc.

A devaluation of the US Dollar, caused by the Federal Reserve creating new dollars, would seem to help the balance sheet by reducing the weight of the liabilities against the assets.



Disclaimer: The material published here is for informational purposes. The author accepts no liability whatsoever for anything related to the post.

US Households balance sheet

The US Federal Reserve releases every quarter a report called the "Flow of Funds Accounts of the United States" (or Z.1), which can be found here.

This report includes, among many other data, the consolidated balance sheet of US households.
Open the PDF file, and search for 'B.100 Balance Sheet of Households and Nonprofit Organizations'.

For Q3 2008, you will find something like the following snapshot:

I have highlighted in red the three most important figures:
- total of assets (aka, what households own)
- total of liabilities (aka, what households owe)
- net worth (difference between what they own and what they owe).


Now here is a little diagram I have done showing these 3 figures graphically:

For comparison, US GDP is about $14 trillion.

Some important conclusions:
- US Households net worth is now about $56.5 trillion,
- US Households, as a whole, are far from being in debt.



PS: Surprisingly, I cannot find a wikipedia page on the US Households balance sheet, though there is one on their net worth called "Wealth in the United States".

Risk of Inflation in the next years?

This post is an attempt to gather what some (wealth management) professionals think about the risk of inflation in the coming years.

~~~~~~~~
Summary:

- Several see inflation as a high possibility: Warren Buffet, Jim Rogers, George Soros, Jeremy Grantham, David Einhorn.
- Some are not sure for now: Marc Faber, Mish.

~~~~~~~~


Warren Buffet, January 22, 2009, here:

You can’t just do one thing in economics. Any time somebody said I’m going to do this, you have to say and then what. And there is no free lunch. So if you pour money at this problem, you do have after effects. You create certain problems. I mean you are giving a medicine dosage to the patient on a scale that we haven’t seen in this country. And there will be after effects. And they can't be predicted exactly am but certainly, the potential is there for inflationary consequences that would be significant.

Marc Faber, January 9 2009, here seems uncertain:

the big question is we are in depression but is this depression is going to be inflationary or deflationary? In both cases the markets will not perform particularly well because in a deflationary depression all asset prices will continue to go down. In an inflationary depression interest rates will go up and so on the both assumption equity prices are not particularly inexpensive.

Jim Rogers, December 16, 2008, here:

we’re going to have gigantic amounts of government debt coming onto the market all over the world in the next year and inflation is going to be coming back in a big, big way

Jeremy Grantham, January, 2009, here:

For the long term, research should be directed into portfolios that would resist both inflationary problems and potential dollar weakness. These are the two serious problems that we may have to face as a consequence of flooding the global financial system with government bailouts and government debt…

Soros, January 19, 2009, here:

“If they are successful…the deflationary pressures will be replaced by the specter of inflation and the authorities will have to drain the excess money from the economy almost as quickly as they pumped it in. Of the two operations the second one is going to be, politically, even more difficult than the first,”

Mish, January 2009, here seems uncertain about a coming inflation, at least for now:

We have been in deflation for about a year, and maybe it lasts another, or five. Then again, perhaps we drift in and out of a slow growth recessionary period much like Japan for a decade. We have to take this one step at a time.

Bill Gross, November 2008, here:

the Fed will stay low for an extended period of time while the inevitable inflationary pressures of government bailouts lay further out on the yield curve.

and January 6th 2009, here:

I’d say you got to buy TIPS. You want inflation protection, and the value of TIPS is near historic. If this [government bailout] is successful, the economy will reflate…

David Einhorn, 20th January 2009, here, here:

The $5.1 billion hedge fund is buying gold for the first time amid the threat of inflation from increased government spending.
"Our current chairman of the Federal Reserve, Ben Bernanke, is an "inflationist" [...]
The size of the Fed’s balance sheet is exploding, and the currency is being debased.”

Favorite investment / economics books

Here are some of my favorites books related to investment.
I give them in order of importance (it is quite subjective).

1. Robert Shiller, "Irrational Exuberance"


Robert Shiller is a professor at Yale. He warned against the dot com bubble crash and the housing bubble crash.

I read this book in 2007 and this, among many other source of information, saved me from the crash of 2008. And this is exactly why I put it in #1. Note that Warren Buffet, as much as I amire him, did not warn investors about the crash that happened. Robert Shiller on the other hand did a lot to warn people.
If you are still wondering what is happening in the economy in 2009, why house prices are still going down, this book can go along way in helping you. The book explains how it was possible to spot that there was a housing bubble in the US, in the UK, in Spain, in Ireland.

The book introduces apparently the first chart of the price of homes in the US from 1890 to 2005 (the book was published in 2005). Today, this graph appears everywhere. Most articles explaining the housing bubble are using his graph. Check for example the wikipedia page on the US housing bubble (the first graph you see on the right).

Robert Shiller also proposed a methodology to track home prices which was the origin of the S&P/Case-Shiller Home Price Indices.
From wikipedia:
"The Case-Shiller index prices are measured monthly and tracks repeat sales of houses using a modified version of the weighted-repeat sales methodology proposed by Karl Case and Robert Shiller. This means that, to a large extent, it is able to adjust for the quality of the homes sold, unlike simple averages."

In short, Robert Shiller is an excellent source of information about the housing market in the US, and the economy.



2. "The Essays of Warren Buffett: Lessons for Corporate America"



This book is a great source for Warren Buffet´s writings.
Warren Buffet has not written any book but he wrote the famous Berkshire Hathaway Inc. shareholder´s letters (most of which can be found here).

This book is basically a compilation of essays. The great thing is that it is sorted by topics which makes it a lot easier to use. I wonder why Warren Buffet actually never bothered to do that himself...

This for me is his legacy, summarized, synthesized.
A must read.
I go back to it every time I wonder what Warren Buffet say about a particular thing...


3. George Soros, "The Alchemy of Finance"



George Soros is the richest hedge fund manager today (with $9 billion), and #97 richest man on earth. ´

This book is a mix of theories and practice.

- theoretical part of the book:
George Soros explains some of his conceptual framework: "reflexivity", etc.
You might think this book is old and the financial world has changed.
I argue you can find some great gems. Check for example the paragraphs on the REITs (Real Estate Investment Trusts) boom-bust model page 63 (paperback edition).
It happened in 1970 (boom) to "few years later" (bust). George Soros made money when the stocks went up. Then few years later he made money shorting the stocks when they went down.
And guess what: the REITs boom-bust scenario happened again in 2000-2007 (boom) to 2008-? (bust).
Look at the long term graph of the ETF and stocks with tickers IYR / SPG / GGP if you want to see some typical boom-bust patterns.
And this is just one idea among many. I think it is definitely worth reading the theoretical part.

Another thing that struck me. George Soros thinks the market is almost always wrong (page 52: "I contend the market valuations are always distorted...").
This goes against what most investors / speculators / economists write: "the market price is right blah blah", "all the news are in the price already blah blah".
Note that Benjamin Graham and Warren Buffet also agree that the market is almost always wrong: for them "Mr. Market" is a "manic-depressive" knocking on your door every day with a different price. Same idea.


- practical part of the book: George Soros explains in great details (140 pages!) the positions of his hedge fund (the famous "Quantum Fund") between August 1985 and November 1986. You can see his holdings and the "rational" for them. Long positions, short positions, commodities, stocks, bonds, currencies. Soros calls this part of the book the "real-time experiment".

You see how he grew the equity of the Quantum Fund from $647,000,000 on Aug. 16 1985 to $1,461,000,000 on Nov. 7 1986; a 126% growth in 15 months which is amazing considering the size of the equity. You can see the leverage that Soros was using.

This experiment covers the timeframe of the Plaza Accord.
It is great for anybody interested in finance, trading, financial history of the 1970s and 1980s.

I think this book is a unique work.
It is not always clear, not every page is great, but overall it is definitely in my top ten of financial books. I highly recommend it.

Where else can you get so many trading ideas from the richest hedge fund manager there is ?


4. Jim Rogers, "Hot commodities"


I love to read Jim Rogers´ books.
Jim Rogers used to work with George Soros. The both of them lead the Quantum fund from 1973 to 1980something (cannot remember when Jim Rogers quit the fund).
In an interview that was published in the book Market Wizards: Interviews with Top Traders, Jim Rogers explains how things worked between Soros and him:
"George Soros was the senior partner, and I was the junior partner. We started off with one senior partner, one junior partner, and one secretary".
"If you broke down the division of labor, he was the trader and I was the analyst".
I am not sure how George Soros sees it.

Nevertheless, Jim Rogers is a very interesting writer.
A few things for him:
- he writes very clearly,
- he predicted at least a few key events that very few could foresee.
-> the commodities boom of 2000-2007 (commodities bull market that he claims will last a lot longer once the ongoing overall "asset liquidation" is finished),
-> the crash of the Japanese equity bubble in 1990 (prediction done in the interview done in April 1988 in same book Market Wizards: Interviews with Top Traders)
-> the crash of US financial stocks in 2007-2008, and especially Fannie Mae, Citigroup, and the investment banks, and homebuilders. (Quote from August 2007: "I have been and am still short the investment bankers in America. I'm also short homebuilders.''; source: bloomberg article here ).

All this to say he is worth listening to, even if I take things with caution.
Some of his predictions turn out to be wrong like in the same book when he predicts in April 1988 that a financial collapse: "Right now, I am still looking mainly for a financial collapse. However, the politicians may foul it up and turn it into an economic collapse".
Or maybe he was talking about the collapse of 2008 twenty years in advance...?

In any case "Hot commodities" is a great read. The chapter on oil is an excellent summary of the oil market in 30 pages. This chapter alone is a must.
Other topics developed in specific chapters are: gold, lead, sugar, coffee.

I personally find the chapter on sugar very convincing.
What a great trade potentially...

Even if you are not concerned with investments, or trading, I think everyone should know a little bit about commodities, and this is a great book to do that. Jim Rogers writes for everyone and takes you by the hand; the book contains very little financial jargon.

I am convinced that within 10/15 years the world will not have enough oil for everybody, that the oil price will be much higher than today.

If you are still unfamiliar with the oil market, or think the oil supply will not be a problem in your lifetime, do yourself a favor and read this book.
The oil is *the* resource we all use and need the most. Apart from water, oxygen, and few other things.

Another great book on oil is The Prize : The Epic Quest for Oil, Money & Power.

2009: inflation or deflation ?

Inflation or deflation ?
Mish posted his opinion on this today. Check it out here.
Here is an extract (emphasis are mine):

"Credit marked to market is going to continue to plunge, and plunge at a faster rate than any stimulus from Obama or any swap-o-rama tactics by the Fed. In my book that is deflation. You might not be able to see it as the Fed will allow banks to hide the destruction of credit in level 3 assets or off the books in SIVs, but pretending something is worth more than it is does not make it so.

The Fed at some point will resort to out and out monetization, and that will have the inflationists screaming at the top of their lungs. However, banks will still be reluctant to lend, and consumers and businesses will be reluctant to borrow."

Mish has been very good in his macroeconomics forecasts ever since I started reading his posts almost 2 years ago.
And again this post makes a lot of sense to me.


Stock market forecast
Also, his forecast on the stock market:
"I am sticking with a thesis that says we are currently in a sucker rally in the stock market that will end soon after inauguration or moments after Obama signs a new stimulus package. My target is 600 on the S&P but 450 is not out of the question. However, it is better to think of this in ranges and that range would roughly be 450-700."

Toll Brothers (TOL) - stockholders´equity chart

Here is a chart of Toll Brothers stockholders´equity since 2001.
The data is based on Toll Brothers quarterly and annual reports which can be found here:
- quarterly reports
- yearly reports

From my understanding, the equity grew very fast during the housing bubble for two reasons:
- cash grew because of sales,
- inventory grew, and got inflated because of the constant appreciation of land and houses values.
All assets obviously growing faster than the liabilities.

Now Toll Brothers have:
- 1.6 billion $ of cash
- 4.1 billion $ of inventory

- total assets = 6.6 billion $
- total liabilities = 3.3 billion $
- hence equity = 3.3 billion §

Now my guess is that the inventory will have to be reevaluated in the future because Toll Brothers will never be able to sell it for the price they have it currently valued for.
I believe this is what happened in the last year.
If the inventory, currently reported worth 4.1 billion $, is sold in the next two years for say 2.5 billion $, then Toll Brothers total assets will diminish by 1.6 billion $, and same for the equity. And this would bring the equity back to 1.7 billion $.

Of course it will take time for Toll Brothers to realize/admit? the inventory writedowns.
In the meantime, the CEO Robert Toll is selling significant part of his shares in the company.
I would do the same if I were him.

Microsoft (MSFT) - long candidate ?

- ticker = MSFT (NYSE)
- current share price = 20.33 $
- book value per share = 4 $ (approximately)
- earnings per share = 1.90$

Microsoft stock is currently priced at a PE of 10. This looks like one opportunity in 20 years time.
Imagine the scenario in 3/5 years: earnings per share at 2.50$, and a market valuing the stock at a PE of 15; that would bring the stock to a price of 37.50$.
This scenario is not absurd at all to me.

The risks ? well earnings could go down due to the current global economic slowdown, but Microsoft looks to me like a real Warren Buffet pick, with a monopoly, a difficult position to compete with, with very profitable business.
I guess the only reason Warren Buffet does not buy it is that he does not buy what he does not understand as he said several times.

Henkel (HEN3) - long candidate ?

Here is an idea for a long position:

Henkel - long idea
- ticker = hen3 (German stock exchange)
http://uk.finance.yahoo.com/q?s=HEN3.DE
- company website - investor relations
-> latest quarterly report

- current share price = 23.97 Euros
- book value per share = 22 Euros (5.7 billion Euros / 260 million shares) ; check the 2007 annual report for this;
- earnings per share = 2.13 Euros
- growth of EPS in last 5 years = continuous growth, typical of Warren Buffet picks
- context: global economic slowdown

- my opinion:
Henkel is a long standing German company, with steady and growing profits, typical of stocks that Warren Buffet favors.
Henkel sells many famous products known by millions of households across Europe: Persil, Fa, Somat, Schwarzkof, Mir, Bref, Diadermine, etc. Laundry & home care, cosmetics/toiletries, adhesive technologies.
Because the products are so famous it is highly probable Henkel will stay in the future and it is difficult to compete with them. It is similar to Johnson and Johnson (JNJ) in my mind.
The book value alone is already 22 Euros per share. Parts of it is goodwill which I cannot value myself.
But I believe there is still considerable margin of safety.
The earnings growth might slow down due to the global economic slowdown, but in the medium/long term (3 to 10 years), I foresee a significant growth for the share price.
With a conservative scenario of earnings of 20 Euros per share (10 times the current 2 Euros per year) in the next 10 years, the value of each share already is over 35 Euros easily (considering the book value).
And this is a very conservative scenario in my view.

A position: 1$ long Henkel + 0.7$ short Toll Brothers (TOL) seems intersting to me.
It gives protection on the downside, should the stock markets get depressed again; and it favors the long side.

Toll Brothers (TOL) - short candidate ?

- company = Toll Brothers (www.tollbrothers.com)
- ticker = TOL (NYSE)
- current share price = 20$
- book value per share = 20.4$
- earnings per share = -1.88$

- context: residential real estate market bust.
For more on the residential real estate market bust, there are zillions of things to read. Some interesting pages to start with:
http://en.wikipedia.org/wiki/United_States_housing_bubble
http://www.patrick.net
http://www.alkalizeforhealth.net/Ldebtclock.htm

- my personal prediction, for what it is worth:
i would guess TOL will keep losing money in the next 4 quarters at least; and its equity will decrease due to assets writedowns.
Scenario for end 2009: EPS = -2$; book value down from 20.4$ to about 17$ a share; and outlook will still be grim for the following 3 years. At that point, the market will value TOL at less than 15$, possibly less than 10$.
Risks: one risk of taking a short position is that a rally could take this stock higher; in the hope that the bottom is behind us... I do not see how such scenario could survive 3 quarters of bad news.
The prices of houses are still decreasing.

I recommend to draw a graph of TOL equity (book value) from 2000 to 2008. What you will see is a very nice (incomplete) bell curve. If you ask me, the bell curve will be complete in about 2 years time, and TOL equity will be back to 1.5 billion $. At which point the market will have realized that selling houses is not anymore the great business it was in 2000 to 2005. The long term graph of home values show here is very telling:
http://www.ritholtz.com/blog/wp-content/uploads/2008/12/case-shiller-chart-updated.png
Note that Robert Shiller was one of the few who called both the dot com bubble and the housing bubble.
By the way the chart was presented by Robert Shiller in his book "Irrational exuberance" which I highly recommend to anyone interested in the current economic events in the world. And if you own stocks of TOL and have not read it yet, please do. The book is not about home builder, but gives great infos on the housing market across the last century.


I find the following interview of Robert Toll (CEO of Toll Brothers) very interesting.
The interview is from June 3rd 2008.
(also available here: http://www.foxbusiness.com/video/index.html?playerId=videolandingpage&maven_playlistId=1292d14d0e3afdcf0b31500afefb92724c08f046&maven_referrer=rss&referralPlaylistId=1292d14d0e3afdcf0b31500afefb92724c08f046&referralObject=1100421)



Some quotes from Robert Toll I find particularly interesting:
3:30-3:40 -> "Our buyers are not sitting around the kitchen table waiting to hear what the Fed said..."
4:22-4:40 -> "The problem is not the down payment; the problem is not the interest rate; the problem is the sale of the old home and the problem is the fear that I gonna look bad, that I didn´t make the right move, that I wasted time and money here, and that I should have waited..."

If this is true, and I guess he is the best person to know, then I would be worried for future earnings and future inventory evaluation.
I find it hard to believe that households will suddenly think that the market has turned and will go up. This will take years I guess. Even if there is a huge fiscal stimulus or else.


Note that having only short positions is risky. The market can rally longer than you can stay solvent as often said.
By being long a stock you think is undervalued, and short a stock you think is overvalued, you are taking a bet on the relative performance of one against the other.
I´ll post shortly an idea of a long position that could be taken against TOL.

what this blog is about

I will propose investment or speculation ideas, or discuss the current events, particularly in the financial markets, macroeconomics.

Disclaimer: I am not a professional of the finance industry, nor an economist, so please do your own analysis.