I have received many calls and e-mails asking my opinion as to whether or not investors should participate in General Motors' offer to exchange their bonds for GM common at a ratio of 225 shares per bond. Investors considering this exchange are making two mistakes.
Mistake #1: Investors are assuming that GM common shares will be worth about what they are trading at now ($1.85 or about 41 cents on the dollar per bond). Share dilution could push GM share prices lower. The fact that, if the exchange is successful and the UAW and government combine to own approximately 90% of GM when this is over means that shareholder value and growth will not be job #1.
Mistake #2: A major mistake investors are making is believing that the exchange will occur. For a successful exchange to occur and for bankruptcy to be averted under the government's, I mean under GM's plan, 90% of bondholders have to approve of the deal. I have as much chance of passing through the sun unscathed as 90% of GM bondholders accepting a deal to give up their status as senior creditors and become equity holders in an enterprise run for the benefit of the UAW and the green lobby.
The government is already taking steps to take advantage of this. The Obama administration is poised to push ahead with its so-called "Cash for Clunkers" plan. Consumers could receive rebates of up to $4,500 to trade in their current older vehicles for new "green" vehicles produced by (drum roll please) the new GM and Chrysler. Those who think that this is a good idea should consider two things. First, where do worn out batteries used in hybrids go when they where out? Usually to land fills where their lead is absorbed into the soil. Secondly, the last time government tried to help run an auto industry and preserve union jobs was the British Leyland fiasco in the 1970s. How many 2009 Triumphs are on the road these days?
The government presented the final stress test results to the "Big 19" banks today. Information (selectively chosen) will be released to the public this Thursday. During my travels last week, many financial advisers where optimistic that the results would be positive. Boys and girls, if they were positive, Tim Geithner would have been doing his Paul Revere impersonation "ready to ride and spread the alarm through every Middlesex village and farm" (apologies to Longfellow). If the information released is surprisingly positive, the market will not believe it too be factual for the market knows that something is rotten in the state of Denmark (apologies to Shakespeare). If the news is unexpectedly dire, the market will punish certain banks.
The government set guidelines for banks to pay back TARP funds. The most critical requirement is for banks to raise capital outside the Temporary Liquidity Guarantee Program. Thus far, JPM, GS, and Northern Trust have done so. Two large, troubled banks have not. One, in fact, issued $7 billion of TLGP bonds last week. Don't worry, the government is all to happy to have certain large banks in its back pocket. This will enable the government to use these banks to promote its social agenda (low income lending, mortgage forgiveness, etc.) Welcome to Amerika.
All is not lost in the capital markets, however. There are signs of life in the economy (the so-called green shoots). Although opportunities abound in the high grade corporate bond market for investors who can tolerate volatility, one must take the possible bottoming of the economy for what it is, a settling at the bottom of a deep ocean. The recovery is unlikely to be V shaped, but rather more like a U with the right side being severely elongated. The worst may be over, but a boom is unlikely this year. Beware cheerleader-driven asset bubbles.
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