Tuesday, November 18, 2008

Thoughts On Fuel Efficiency and "The Big Three" - Buy a K&N Filter

I drive a foreign car. I drive a Lexus IS350. I've already defected and there won't be any coming back until I see compelling reason, and I certainly didn't see it in testimony today. 2 of 3 (chrysler being the loner) expressed the need to "invent" new more fuel efficient alternatives. But let me relate a story of my own experience and use this as a springboard for discussion.

The sticker on the car I bought said 21/27 EPA mileage. Anyone who has bought a car knows these numbers are ambitious. Even the dealers themselves hedge these numbers by stating it "depends on how you drive" - which is true.

What makes this important is that I bought a K&N aftermarket filter for $50 which is said to last a lifetime with cleaning and re-oiling. The fact that its cheaper than a factory replacement from the dealer,(and so I'll probably just order a new one) is interesting. I'd certainly have it re-oiled if I could find a shop to clean the K&N properly too. But let me come back to this in a minute.

The by-product of this filter is normally directed at additional performance, secondarily fuel efficiency. I'll be the first to say I can't tell if my car is any faster, but mostly because its really fast already. Where I can tell the difference is when the car's tank fuel mileage calculator went from struggling to get to 27mpg with a nursing foot to acheiving 30mpg all the while averaging over 70mph.

So, the additive 3mpg over a base of 27mpg is a greater than 10% increase in mileage which can be acheived perpetually if the air filter is cleaned or replaced on a normal basis. The fact that my car might be peppier is quite a trivial side effect.

If the increase from such a minimal expense is so great, I have to ask why K&N isn't THE provider for OEM air filters. And to add - I used a K&N on my previous car and experienced the same results! The fact that we need to develop and then hope to sell electric cars is ludicrous in its anticipated effect on the eceonomy on saving the buyer money and protecting us from a debated global impact. If the MPG increase percent were even 5% this would push the current combustion vehicle 3-4 years on the fleet MPG timeline for improvement instantly!

If, instead of sending checks out to buy more things, we could send out coupons for K&Ns to everyone that were worth 100% of the cost of a replacement air filter, the aggregate effect of this on fuel cost savings would tremendously outweigh the effect of the bailout to the automakers, direct cash to small businesses to install it immediately, and save the consumer 10% on fuel costs over the next 2 years. It would be more cost effective than bailing out the big 3 and paying $105K to say goodbye to overpaid workers while millions more lose their jobs.

This is just one example of something you'll never hear from anyone in a position to do something about it, but is so patently obvious to regular people. Its simple, its effective and thats why its not going to be taken up seriously....

Wednesday, November 12, 2008

The Educating of Hank Paulson - Too Big to Fail, but Time is on Your Side

Today Paulson switched from backing up banks to moving to the consumer lending institutions. For all the die-hard fiscal conservatives, this along with Nancy Pelosi again talking of a Detroit bailout was enough to force what must now be dry heaves. Yes we're finally getting a true experience in moral hazard - something that once was only seen in Economics classes, but is now a daily headline.

However, what should be a new class in Economics is how to deal with moral hazard. The creation of such is obviously impossible to avoid in reality given societies obvious propensities, but dealing with one is something where real education would benefit us all.

Lets say "Damn Detroit" - that is damn maybe a million jobs. Well, the problem with this statement is that we've learned that moral hazards only become a problem when everything else is falling to pieces. We've lost 1.2million jobs this year so far, how much would another 1 million help us rebound? Zilch. A better question is how big would the industry be if it could have shed union jobs at will in the past - the answer is a lot smaller and less dangerous.

Same deal here with troubled borrowers - "toss the bastards out of their homes" you might be tempted to yell. The problem here is that in so satisfying your sense of right and wrong in a feeling that is so old it has a direct latin origin - "caveat emptor" you would be exacerbating the very problem which got us here - that is the massive risk of default which created the lack of confidence in the financial market.

Finally - lets let the "wall st. banks fail" is just taking a pot shot at the people who were at most only complicit with other parties listed but not limited to the above. Unfortunately, these banks are so intertwined in the economy that a term often lamented in Detroit could be analogized to it - UNIONS. Thats right - the banks "securitizing" and "spreading" their risk around really was the equivalent of bringing other banks in on their cause, whatever it might be, which is now pure survival. Now they stand together to gain bigger bargaining power than they would get on their own when trouble arose. In reality, we can't afford to bust up this union and let them all fail, so we're propping them up and giving in to their demands.

So now what? What do we do? The answer is - you prop them up in the near term while imposing staggered later dated terms of the bailout that will force failure or payback, but the key is staggered. the reason for this is - when everyone falls together, they stick together in their failure. The news is so bad that it wrecks wealth indiscriminately. However, if you met out the potential failure in the future over months and years, it can be interspersed with successes and is less likely to become systemic at one time and failure of the lone weak member of the herd is not only expected it is condoned.

So, to summarize - provide a near term assurance, but stagger the due dates for payback or insolvency. This will re-diversify the risk over time which will allow us to deal with problems over time instead of the perfect storm in which we're currently watching.

I don't want to impute to much to Hank Paulson, but his shift to the consumer lenders is perhaps an unconcious recognition of this behavior - we need to shore up the lending to people en masse by making consumer lenders feel more confortable to lend so that the last bastion of liquidity isn't sucked out of the economy at the consumer level right as they might actually need a little to pull them through the downturn.

So, to draw back to my thesis - keep the lending lines at the consumer level open so they don't pull back too heavily en-masse and group their woes together as described above. If they do - thats called a depression - it kills small ticket items just as equally as big tickets. With a negative savings rate - consumer credit has been the base level of liquidity, so if we let this die its game over. However, if we bolster this industry - make it feel like the government is cuatiously backing them, then this industry which has the most far reaching footprint will hopefully keep the paddles charged.

We'll see. I think Hank is finally thinking a couple moves ahead of the headlines....get to work man.

Saturday, November 08, 2008

From Kirkorian to Kevorkian

Its not like me to write two posts so closely together, but this week has been a doozy for whats left of the meaning of capitalism. I'm tempted to redefine it as a verb v. "the act of a company lining up to get a bailout from the government", but absent this total redefining of the word let me just rail against one particularly obnoxious case.

The Detroit auto industry which invented the term "cash burn rate", can't increase their cars' MPGs, but has succeeded in continually increasing its "cash burn rate". What exactly is a "cash burn rate"? Its the rate at which their business obliterates their cash hoard. And the verb "burn" is very appropriate because they're losing billions per month each!

I have a couple questions - if Ford and GM are losing billions per month each - where is this money going? If its operating costs, shouldn't this be going into the economy somewhere? Their burn rate is bigger than the fiscal stimulus package issued earlier this year! Absent any real explanation, I'll just put this picture in your head - guys shoveling bundles of hundred dollar bills into furnace - the top of which you see smoking in the Detroit sky line when driving through. I wonder how long it would take to literally burn 30 billion dollars through this method?

I steer my outrage away from the executives who have repeatedly made millions yearly while driving this industry into bankruptcy - that is a different rant altogether.

In any event, the auto industry is now headed into Washington to get a bailout to prevent the collapse of this venerable industry...again. My question is why should we be interested in investing in an industry that at its core describes its operating atmosphere with "cash burn rate"? Shouldn't we be looking to support industries described by terms like "cash pile-up rate"?

Well, unfortunately this industry has been suckled at the tit of the Government for so long that it has become a shadow welfare program for 1 in ten workers in America. Yep - its real strategic plan was to become too big to fail and threaten the consequences of its failure at the worst possible moment for our economy.

Here is what I say - lets see how much money they think they need and then instead of saving these extortionists, lets plough it into unemployment benefit extensions, worker retraining, and diversify out of this money pit once and for all. We're already on the hook for the pension which would go to the pension guarantee corp which is backed by the US Government. So don't threaten us with this - we'll pay for it either way. At least letting the industry die will stop this liability from getting even bigger in the future.

Slowly dismantle the industry and sell off what assets can be sold, rehab others to create CNG cars with Boone Pickens, but if I never see another Ford Taurus or Chevy Malibu again I'll be a happy person!

Every savy investor who thought this industry in its current state was a good investment has been proven hideously wrong. Kirk Kirkorian bailed out after Ford showed him what the meaning of "cash burn rate" is personally. Its time to introduce Jack Kevorkian to this industry.

If the number for this bailout is 50 billion, let me do some envelope math with this: around 1 million jobs would be lost - if we just turned off the cash burning furnace, we could give every one of these people $50,000 lump sum. We could NOT give the executives any more millions and maybe these people could use the money to pay down their mortgages and refinance - two birds with one stone! Add on the unemployment benefits they'd get this would be a deal anyone who has lost their job already this year would take!

When is my $50,000 check coming? Talk about fiscal stimulus...

Death By Data Points This Christmas or "What Doesn't Kill Me Makes Me Stronger"

Here is a dumb question - does anyone not living under a rock think we're not in a recession? We've been getting a steady stream of news about the credit crunch and the global slowdown for the entire year and yet the stock market still gets tossed around by every new data point confirming that "yes, we're in a recession". Notice how I said "tossed around" and not explicity "tossed downward" - emphasis on the difference being that the market is already down huge!

The market has already priced in this recession to the levels of a global liquidity freeze, total banking industry failure and "Depression 2". So why is the market still gyrating so much over every little piddly data point just confirming what any idiot already knows?

Lets take a couple exapmles:

The economy lost 1.2million jobs, with 240K half coming in the past two months. What else do you think happens during a recession? These numbers look more like every other recession - in fact they're currently being compared to the early 1990's recession. Who didn't expect this?

Or how about this one - car sales were down by the largest levels seen in 50 years - take away the credit to buy cars and combine it with the fact that Detroit hasn't been making a car anyone would really want to buy without a juicy financing handout and what do you get? Yep - nobody is buying cars now that they're no longer being given away!

How about the "Ad Spending" data points where News Corp and Disney came out and said - companies are slashing their ad budgets. Did you expect them to double their ad budgets? I mean, really!

These all seem obvious after the fact, so let's test our predictive meddle a bit on the retail sector this winter...anyone really think the toy manufacturers are going to come out and post another record year for the Tickle-Me Elmo or that sales will be booming for the latest Madden video game? I think not. In fact the entire retail sector has priced this expectation in already as well, yet as these companies report they'll all get trashed even more as panic punishes them for this news twice!

And then there is Mastercard which is going to tell us how big ticket item charges declined and overall spend is down. Duh! This won't stop Coach from getting shellacked AGAIN! So what does this all mean?

It means that those people with resolve strong enough should by some stocks for their kids and family this Christmas. Yep, no batteries needed, no assembly required, just Buffet-like guts. As your investment advisor had you buying all the way up the last bull market, this is actually the time to be buying - snapping up good companies when the news is grim and then let every schmool out there take your holdings up once the data points start to tell us that - surprise, surprise we'll start to come out of this recession.

If you have any money left, start buying now - I see huge sales, and not in the malls this Christmas.

Monday, November 03, 2008

Current Dividend Myths

Now that the stock market has declined 25-40% this year, investors who have decided to be greedy when others are fearful are now dipping their toes back in the market. A good strategy has also become in vogue - dividend yield hunting. Though I think this is a good strategy to seek "boring" stocks - meaning not stocks participating in bull markets - the market downturn has caused and effective 33% to over 50% increase in yield distributions.

This is a great opportunity, as Cramer is now directing people to consider the dividend yield as a sign of stability AND security since his show started. However, what must be considered is not just the new yield percentage, but critically evaluate the reason why the dividend has doubled. Well, superficially the dividend doubles when the price of the stock gets cut in half, but what is the underlying reason it was cut in half is the $1mil question.

For example - many REITs now boast astronomical yields, big banks dominated the DVY (Dividend Index), and energy trusts have had their dividends skyrocket. Yet, a cursory look at these tells us a lot. First - remember a dividend is a distribution of cash to investors and admission that the company is currently taking full advantage of its place in the marketplace, needs no more money to pursue growth and thus is finally giving you the earnings per share you've paid for when you bought it.

Now, the issue arises when the company has crested. If the earnings are set to fall, the free cash flow will fall and the investment community will bid the stock down commensurately. This means - they give you a dividend and subtract it from the price of the stock. Imagine you owned a stock for $10 with a quarterly dividend of $1 and declining earnings per share. This stock will pay you $1 and decline by almost the same amount. Just as with growth stocks - you can get caught in this value trap in reverse.

So, the real key is to find stocks which raised their dividends during the heyday, might have a little short term earnings blip which as pushed them heavily downward. However - the key here is the "blip". If the earnings are expected to recover with the economy - then seize it. but beware companies that paid high dividends based on business models which might be left by the business roadside coming out of this credit crunch. Some most notable companies with high dividends are listed below. Some have shaky outlooks, others like in the oil patch - probably will recover and generate enough cash to pay you until they do.

Canadian Oil Trusts: PGH,PWE,PVX
Big Oil Companies: BP,TOT
Oil Pipelines: TCLP,BPT


Big Oil Stocks: BP,TOT

Banks: BAC,C

Ok - so draw your own conclusions on these, but clearly bank stocks are in flux - who knows what their future earnings could be. Big oil - oil has come down, but do you really think it will stay here long, especially when the economy recovers? Canadian Trusts have the tax situation coming up and their exposed to market risk of prices of energy, but otherwise they're living in quiet Canada and have established business models you can understand. Pipelines have contract risk if prices of oil/gas stay low, but their cashflow is huge and their liabilities outside energy or expansion is low. You decide which dividend is safest in 2 years and go after that.