Rob Coyte's Blog
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- How Will Income Streams Increase From Shares? 27-Jul-2010
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Markets Going Down Again...What is the Big Picture?
So far this calendar year we have seen the return of “down” markets. Whether this has been as a result of sovereign debt issues in countries like Portugal and Greece, or because the Chinese wish to deliberately slow their economy, or the plethora of reason markets find to move either up or down on a daily basis.
As discussed we need to not worry too much about the market and really it is just a gauge to tell us whether a company is either cheap or expensive to buy. Naturally, after the market falls the business becomes cheaper so if after looking at the profitability and the fundamentals of the business and you like what you see it is obviously a buying opportunity. The classic scenario here in Australia was the banking sector which during the GFC the shares in which lost around 50% of their value however the profit for the one year only saw declines of about 5-10% for the banks. The decrease in valuation of these banks was not justified by the underlying fundamentals which saw share price increase dramatically to higher levels.
Placing the 10% fall from the highs in January in perspective is also important. The S&P500 (general share index for the broader market) in the US has risen 62% from the lows achieved in March 2009 to today’s closing price notwithstanding the 10% retracement. These retracements are natural and are not to be feared but to be embraced as buying opportunities.
Suckers That Own Businesses
An article written by Eric Dash from the New York Times recently broke down the level of bonuses that US firms paid their staff in the last year. Once you look at the figures it will demonstrate why President Obama is livid about the current situation given the US Government requirement to bail out most of these institutions in the last couple of years.
Across the board about 90 cents of each dollar of revenue earned by the banks is going towards employee salaries, bonuses and benefits. Analysis of the figures show that not only “performers” are taking home bonuses but also “underachievers”.
Citigroup paid a staggering $27 Billion in staff payments which wiped out every dollar of profit. The bank also had to pay back bail out dollars, so they could pay the bonuses, which left shareholders with an annual loss of $2 Billion. The reason given for such generous payments was to keep up with heavyweights of Wall Street such as Goldman Sachs. However, Goldman Sachs paid out only 45 cents of each dollar of revenue which is far more acceptable to shareholders and an equitable split of the profits. Interestingly, Warren Buffet now owns about $8 Billion of stock in Goldman Sachs so you know that these types of arrangements will need to be fair otherwise he will most definitely step in.
The notion of reward for performance seems to be getting lost and the owners of these business are the ones that cop losses but then in turn miss out on the spoils due to these obscene practices.
Wall Street big 5 banks last year collectively earned US$147 Billion before wages and tax. They then paid employees US$114 Billion, reinvested US $31 Billion back into their companies leaving a paltry US$2.1 Billion for their shareholders.
I grew up wanting to own a business, now I want to work in one of these institutions where you take no risk, get handsomely rewarded whether times are good or bad. Unfortunately, this is not a scenario specific to the US, it is a global phenomenon among all companies. Shareholders, especially institutional shareholders need to sort management out and have acceptable remuneration practices. After all if they don’t like it they can always take the risk and expense of running their own business which is a far cry from their current arrangement.
Who Owns America?
The greatest democracy in the world, the land of the free, home of capitalism. These terms have all been used to describe the US.
However, who actually pulls the strings in this once dominant country, dare I say former empire?
Is it the politicians? Hardly, they are mere puppets for their backers that throw money at their campaigns. In a country where the legislature, law enforcement and court appointments are all politicised it’s no surprise that the highest bidder wins.
In that case, is it the corporation’s? Well considering the bath that shareholders have taken over the last couple of years the owners of these businesses whilst powerful are definitely not the only force. Well, what about the management of these companies? They are able to take advantage of the system and reap huge rewards for doing incredibly bad jobs. Whilst they have a good deal they are not those that control the buttons.
The answer to this question can be found in who the US owes. The US debt is around US$12.3 Trillion with about a 25-30% of this debt owed to foreign countries. China remained the biggest foreign holder of US Treasuries with US$790 billion. Japan, the second largest holder, has US$757 billion. The US therefore need to make huge annual payments of interest to foreigners every year. Debt in itself is not bad however when the long term trend is to keep living beyond your means this will eventually catch up. The Government Accountability Office in the US has forecast that based on the current and projected annual trade and budget deficits that by 2019 the US debt will be US$18.4 Trillion.
As with a mortgagee who cannot meet the loan repayments from their bank their house will be repossessed and sold. Is this a real possibility for the US economy? Whilst the US have blocked many attempts by foreigners to own their corporations and assets in the past, besides during the Global Financial Crisis when the money was met with open arms, the foreigners may end up owning it by stealth in due course anyway.
The System is Broke....We All Need to Fix It
This week saw the commencement of the Financial Crisis Inquiry Commission which has been set up to establish why the US economy went into tailspin. This is a similar thing to what was set up after the 1930’s Great Depression which saw the implementation of the Securities and Exchange Commission. Hopefully, it will be of substance not simply political grandstanding and corporate cover ups. There is some fundamental problems with our capitalist system and there needs to be changes made to protect the integrity of our children’s futures.
There will be a parade of CEO’s from financial institutions saying in no certain terms “it was not our fault” whilst we will also hear from regulators such as Federal Reserve Chairman Ben Bernanke and Treasury Secretary Tim Geithner. The Commission will be chaired by former Democrat Phil Angelides who made the remark recently “In 1929 people were throwing themselves out of windows; in 2009, they were lining up for bonuses”.
The final report will be released in December 2010.
President Obama is continuing to fight his war against the excesses of Wall street as he is now imposing a tax on the largest US bank’s and financial firms. I find it absolutely amazing that the industry is so adamantly and publicly against these measures using the argument we need to be able to attract and then retain talent. Well, if we have seen the handy work of the “talent” then they are not worth keeping, and this is a view shared amongst the broader community.
Obama clarified, “My determination to achieve this goal is only heightened when I see reports of massive profits and obscene bonuses at some of the very firms who owe their continued existence to the American people”. Obama went on to say, “We want our money back, and we’re going to get it.”
Obama called “twisted logic” the criticism from the industry that the fee is unfair and warned major banks that trying to pass the cost on to consumers would backfire. “I’d suggest you might want to consider simply meeting your responsibilities and I’d urge you to cover the costs of the rescue not by sticking it to your shareholders or your customers or fellow citizens with the bill, but by rolling back bonuses for top earners and executives”.
Surely it is time that shareholders need to act along similar lines to let these management parasites know that enough is enough. In my view the poor old retail shareholder needs to get the support of the large institutional shareholders as they are the ones with the power. Cynically, they are all part of the same gravy train so why would they rock the boat for their mates.
A Year to Reflect
Anyone that invests in financial markets will be taught lessons along the way and usually that involves learning them the hard way. Whilst we reflect on the lessons we have learnt over the last couple of years it is important to embrace them and use that as a positive footing to go forward from here. However, you need to remember these lessons in the future when most others will have put them in the vault and inevitably moved on to the new investment paradigm prevalent at the time, “it is always different this time”.
We will be taking a few weeks off to enjoy family and friends over the holiday season, and trust you will have an enjoyable and safe Christmas.
We will then be back for 2010 ready to roll.
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