Monday, November 30, 2009

Seminars on the High Seas

By Vahan Janjigian - As promised, I am reporting on today’s speakers on the 16th Forbes Cruise for Investors. We spent the day at sea on our way to St. Croix and listened to three excellent presentations.

Steve Forbes gave a compelling talk defending capitalism. He argued that the financial crisis was the result of misguided government policies. He explained how the Federal Reserve drove interest rates excessively low and kept them low for too long. This prompted investors to channel money to housing and commodities, causing bubbles in those asset classes. He also blamed Fannie Mae and Freddie Mac for guaranteeing $1.6 trillion worth of suspect mortgages. These two government-sponsored entities were not subject to same reporting rules that other public corporations had to abide by. He warned that the Federal Housing Administration is now falling into the same trap by guaranteeing mortgages with only 3% down payments. He even blamed George W. Bush for pushing the idea of home ownership for everyone and promoting no money down mortgages. He blamed mark-to-market accounting and government sanctioned credit agencies that were not subject to market forces. The government simply ignored contract law during the GM bankruptcy, which made investors very wary to lend. As a result, the Fed is the only entity today willing to buy mortgage-backed securities.

Bond expert Marilyn Cohen explained how corporate balance sheets are getting stronger. Several years ago, corporations were engaging in share repurchases. Today, they are issuing stock, paying down debt, and rolling over high interest rate debt at much lower rates. At the same time, municipalities around the country are struggling with lower tax revenues. As a result, she considers corporate bonds safer than municipals right now. She also explained how the Build America Bonds (BABs) are crowding out traditional municipals. BABs are taxable municipal bonds. The interest rates are higher, but the municipality gets a subsidy from the federal government. As a result, there are fewer traditional municipals bonds available. This has caused investors to bid up their prices and reduce their yields even though credit quality has deteriorated.

Barry Ritholtz also gave a compelling talk. Barry is a political independent and is frequently criticized by members of both major parties. Barry believes tax rates in the U.S. are low in comparison to rates in most other countries. He thinks this is not compatible with the high level of spending. This is why the government has had to borrow so much money. He argued that either tax revenues must go up or spending must go down. He is worried about the employment situation. Average work hours per week have fallen to just 33. This means that we are likely to have a jobless economic recovery. Corporations will not have to hire new workers for a long time because they could easily ask their current employees to put in more hours. Barry also argued that from a historical perspective, the current rally in stocks is only about three-quarters of the way through. He expects the stock market to eventually roll over and go lower, but until it goes higher first.