Markets live chat transcript for the chat ending at 12:07 on 11 Sep 2008. Participants in this chat were: Paul Murphy (PM) Neil Hume (NH)
PM:
Welcome to Markets Live
PM:
This if FT Alphaville’s daily market chat – the regular one, rather than the special Lehmon edition which we had yesterday.
PM:
Good fun that – but chaotic.
NH:
it was
NH:
we need more structure next time
PM:
But look everyone — bear with ius for a mo
PM:
this morning
PM:
Think we might have a good good story
PM:
A bit of possible M&A
PM:
believe it or not
PM:
Neil is just trying to sort something
NH:
right am back
NH:
deep breath
NH:
here we go
PM:
Right, we are going to start with some RAW market info this morning
RAW is market chatter – information that has not been formally tested through traditional journalistic channels (PRs etc). The story might be complete rubbish, but if we believe there is some substance to it we will say so. Either way, Reader Beware.
PM:
Readers beware — idiots log off now — this is untested info but is circulating in the London market
NH:
and it comes from a bandit with a remarkable record
PM:
NH:
umblemished – so far
PM:
NH:
though there is a first time for everything
PM:
No1 is not necessarily the No1 of yesteryear
NH:
this bandit a zero at the moment
PM:
haha
NH:
but that could change
NH:
we shall see
PM:
Hope not
NH:
so
NH:
we need to got to Switzerland for this one
NH:
the company in question may not be familiar to many people
PM:
Oh, no – it is well know — pretty big
NH:
it is Ciba
PM:
Capped at $2.5bn
PM:
has had its fair share of problems recently
PM:
made a series of ill judged acquisitions
PM:
including a move into chemicals used in the paper industry
PM:
: last month the company announced a $524m) second quarter loss, which was largely down to a goodwill impairment in its water and paper treatment division
NH:
on top of that
NH:
there is an activist shareholder calling for chairman Armin Meyer to be booted out
NH:
the activist is called Golden Peaks Capital
NH:
and they argue that Mr Meyer, who has been in the job for almost eight years
NH:
seven of them jointly as chief executive – has destroyed value by not addressing looming challenges in the industry.
NH:
now
NH:
takeover rumours have been swirling around the company for a couple of weeks
NH:
several names have been mentioned
NH:
from Sabic – the Saudi chemicals company
NH:
to Bayer
NH:
stock has had a good move on the back of these stories
NH:
even if it is off a touch this morning
NH:
down 6.7% at CHF 37.8
NH:
but it has come up from CHF25 at the start of the month
PM:
Seriously volatile
PM:
So, wots the latest
PM:
??
NH:
well
NH:
says they have received an approach
says they have received an approachNH:
pitched at CHF50 a share
NH:
and it is now being considered
NH:
has no idea whether it will be rebuffed
PM:
And who is it reportedly from ??
NH:
a German company
NH:
not Bayer though
NH:
the name in the frame would seem to be BASF
PM:
PM:
they have been very acquisitive
PM:
Would it make sense for BASF??
NH:
I think so
NH:
obviously we are making calls on this
NH:
in fact we made a load last night and could not get hold of Ciba
NH:
which is strage
NH:
but then they made have just been in hidding because of LHC
PM:
PM:
ok – nice one (if it crystalises)
PM:
BASF — for CIBA — unconfirmed — untested — but comes from market operator with a v strong record
PM:
Reader beware, idiots log off
NH:
NH:
OK, before we look at the wider market
NH:
there are some interesting comments coming out of the Treasury Select Committee meeting
NH:
King and Blanchflower talking
NH:
we have some snaps
NH:
Blanchflower very, very gloomy
NH:
“I do have a somewhat more doom-laden view on the potential outlook. I have voted for (rate) cuts on a number of occasions, obviously I haven’t been able to persuade my colleagues on that fact.
NH:
“My view is certainly that we are going to see a large increase of unemployment perhaps not as large as we have seen in the past and I think some of it is actually going to be front loaded perhaps we’ll see quite a large earlier on and then it will dissipate, some of the impact will be taken by wages. “I don’t think we are going to see a flat period of growth, I think we are going to see a deeper decline than others think and I think the pullback is going to take somewhat longer to come.”
NH:
“My concern is we will see a horrible surprise in the U.S. … from October, we may start to see quite a big kick through”.
NH:
ON U.S. BAILOUT OF FREDDIE MAC AND FANNIE MAE “Given where they were last week, I am sure they took the right action and they probably rather had little choice.”
NH:
and there is also some stuff on the SLS
NH:
and son of SLS
NH:
BOE’S KING-EXPECTS TAKE-UP OF SLS WILL BE SIGNIFICANT BY TIME IT
NH:
BOE’S KING-SLS WAS ONLY INTENDED AS TEMPORARY MEASURE AND WILL CLOSE
PM:
I will put the full reuters highlights up
PM:
ON AUGUST INFLATION REPORT PROJECTIONS
“There are two challenges facing fiscal policy at present.
Given the events of last year, the magnitude of which were
totally unexpected, the assumption in some of the medium-term
revenue projections made, particularly in terms of revenues from
the financial sector from transfer taxes, those projections now
look a little optimistic. There was a change in the world last
summer and now that would require some adaptation of the outlook
for fiscal policy.”
–
“There are two challenges facing fiscal policy at present.
Given the events of last year, the magnitude of which were
totally unexpected, the assumption in some of the medium-term
revenue projections made, particularly in terms of revenues from
the financial sector from transfer taxes, those projections now
look a little optimistic. There was a change in the world last
summer and now that would require some adaptation of the outlook
for fiscal policy.”
–
PM:
ON RISKS FROM FISCAL POLICY
“From our perspective it is vital to have a credible medium
term framework. There are two challenges which are confronting
fiscal policy at present. One is that given the events of last
year, the magnitude of which was totally unexpected, the
assumptions on which some of the medium term revenue projections
were made, particularly in terms of revenues from the financial
sector and from revenues from transfer taxes on both financial
and property assets — those projections now look a little
optimistic.
“So there has been a change in the world since last summer
and that will require some adaption in the outlook for fiscal
policy.
“The second is that the underlying fiscal balance may have
balanced over the cycle over the past 10 years, but it was
clearly more in surplus in the first half and more in deficit in
the second.
“So in order to get to a sustainable medium term path for
the public finances, these two issues need to be confronted and
I know the Chancellor (finance minister Alistair Darling).
“What is what important is that the announcement about the
future plans for both spending and taxes add up into a credible,
coherent medium term framework.
“These are not the circumstances, with output growing very
slowly, where you would expect an immediate fiscal adjustment
but if it is not to be made now, what we do need to know is how
these plans will add up over the medium term.
“The long term risk is a fiscal framework that is not
perceived by financial markets to be credible does put up
pressure on inflation expectations because it undermines the
market’s belief in the credibility of both the monetary and the
fiscal framework and that will make our life more difficult if
inflation expectations were to remain higher than we would
wish.”
“From our perspective it is vital to have a credible medium
term framework. There are two challenges which are confronting
fiscal policy at present. One is that given the events of last
year, the magnitude of which was totally unexpected, the
assumptions on which some of the medium term revenue projections
were made, particularly in terms of revenues from the financial
sector and from revenues from transfer taxes on both financial
and property assets — those projections now look a little
optimistic.
“So there has been a change in the world since last summer
and that will require some adaption in the outlook for fiscal
policy.
“The second is that the underlying fiscal balance may have
balanced over the cycle over the past 10 years, but it was
clearly more in surplus in the first half and more in deficit in
the second.
“So in order to get to a sustainable medium term path for
the public finances, these two issues need to be confronted and
I know the Chancellor (finance minister Alistair Darling).
“What is what important is that the announcement about the
future plans for both spending and taxes add up into a credible,
coherent medium term framework.
“These are not the circumstances, with output growing very
slowly, where you would expect an immediate fiscal adjustment
but if it is not to be made now, what we do need to know is how
these plans will add up over the medium term.
“The long term risk is a fiscal framework that is not
perceived by financial markets to be credible does put up
pressure on inflation expectations because it undermines the
market’s belief in the credibility of both the monetary and the
fiscal framework and that will make our life more difficult if
inflation expectations were to remain higher than we would
wish.”
PM:
ON HOUSE PRICES
“Policy should focus on where you think the costs are
arising, dealing with the costs of repossessions and reducing
repossessions. I have no idea to what level house prices should
adjust to.
“We did raise interest rates during the period when house
prices were rising. We’ve had the highest level of interest of
any G7 country.
“We discussed house prices at great length … part of the
course of developments was savings in the economy. No one
central bank had an easy solution to that problem.
“Policy should focus on where you think the costs are
arising, dealing with the costs of repossessions and reducing
repossessions. I have no idea to what level house prices should
adjust to.
“We did raise interest rates during the period when house
prices were rising. We’ve had the highest level of interest of
any G7 country.
“We discussed house prices at great length … part of the
course of developments was savings in the economy. No one
central bank had an easy solution to that problem.
PM:
ON MORTGAGE-BACKED SECURITIES:
“The idea that a loan taken up by someone is the same as a
loan taken up by someone else is implausible.
“New instruments in the future will come back, it’s far to
early to predict the demise of asset backed securities.”
–
ON IF GOVERNMENT GUARANTEED MORTGAGES
“I don’t want to take a position on that, but if the
government would guarantee mortgages or what would be
equivalent, setting up a mortgage bank providing mortgages
directly, which is the most straightforward and honest way to
account for it, if they were Do to that, there would be some
source of additional mortgages, depending on the scale, but what
that would do is totally undercut the incentive of private
sector banks to get their own balance sheet back in order.”
“The idea that a loan taken up by someone is the same as a
loan taken up by someone else is implausible.
“New instruments in the future will come back, it’s far to
early to predict the demise of asset backed securities.”
–
ON IF GOVERNMENT GUARANTEED MORTGAGES
“I don’t want to take a position on that, but if the
government would guarantee mortgages or what would be
equivalent, setting up a mortgage bank providing mortgages
directly, which is the most straightforward and honest way to
account for it, if they were Do to that, there would be some
source of additional mortgages, depending on the scale, but what
that would do is totally undercut the incentive of private
sector banks to get their own balance sheet back in order.”
PM:
NH:
all of that has not helpe the wider market
NH:
which is looking pretty weak
NH:
down 65 points at 5,301.7
NH:
and that’s largely down to more woe on the UK high street
NH:
very weak results out this morning from Home Retail Group
NH:
which owns Argos and Homebase
NH:
and the results from Morrison are not special, either
PM:
yes — we should look at the retailers – but first
PM:
We should mop up after Lehman
NH:
good idea
PM:
PM:
Straight to Lehmon
NH:
any read across??
PM:
Hmm – got a few notes – but you know the Lehman news seems to have been significant for what was left out, as what was released.
PM:
Yawning gaps – because, obviously, they were forced to release early.
NH:
Yes, this was a “pre-announcement”.
PM:
Yeah, how do you pre-announce your figs – it defies grammer
NH:
This is from Wikipedia:
NH:
The most common use of the term in the U.S. investing community is for a statement about earnings that are materially different from the expectation of financial analysts or from prior guidance given by the company. These preannouncements seem to have become more frequent in the U.S. since the effective date of Regulation FD. [1] On average, they are made about 20 calendar days before the scheduled announcement or Earnings Call.[2] There are now usually a few hundred such preannouncements every quarter.
NH:
The period during which preannouncements tend to be made is sometimes called the “confessional season” because so many of them are bad news. [3]
It has been argued that in the U.S. a preannouncement of earnings during a quarter does not need to be furnished to the Securities and Exchange Commission (SEC) on a Form 8-K, but that a preannouncement after the quarter ends must be. [4]
It has been argued that in the U.S. a preannouncement of earnings during a quarter does not need to be furnished to the Securities and Exchange Commission (SEC) on a Form 8-K, but that a preannouncement after the quarter ends must be. [4]
NH:
It has been suggested [5] that potential litigation costs are one reason for announcing bad news early – the company may be at risk of being sued for having known the bad information, not having revealed it, and causing a loss to those who bought stock after the company knew. There are indeed more preannoucements of bad news than of good news, and the number of preannouncements increased in the mid-1990s in the wake of an increased threat of shareholder lawsuits. [6] Firms in industries more subject to litigation are more likely to preannounce. [7] The more analysts cover a stock, the more likely the firm is to preannounce, and good preannouncements average releasing half the good news while bad preannouncements average releasing all of the bad news. [8]
PM:
Hmm – like the term confessional season”
PM:
Anyway – having been forced to release its numbers early – and its restructuring plan,what’s been the reaction?
NH:
Well, yesterday, the dead cat lasted for a couple of hours. The stock then died again.
NH:
PM:
Reaction from analysts?
NH:
Well Bryce has on the case this morning – SERIOUSLY on the case.
NH:
So big public TA to Bryce.
NH:
Where do we start.
PM:
Bang em up. Then we can maybe discuss a bit.
NH:
Okay – this is from Ken Worthington at JPMorgan
NH:
Management Has Plan, Not Action — We Await Inv.
NH:
Mgmt Sale
NH:
Lehman reported a F3Q08 loss of $5.92/share, including $5.6B of net writedowns. LEH also announced strategic initiatives to spin-off $25-$30B of comm. real estate and sell majority interest in its inv. mgmt arm. The plan buys
time for credit markets to improve or for a suitor to be found. However, with rating agency downgrades looming and LEH’s stock price under pressure, we believe there are material risks to Lehman in a conclusion that we see as
imminent. In the meantime, CFTC data confirms clients are pulling assets.
time for credit markets to improve or for a suitor to be found. However, with rating agency downgrades looming and LEH’s stock price under pressure, we believe there are material risks to Lehman in a conclusion that we see as
imminent. In the meantime, CFTC data confirms clients are pulling assets.
NH:
Commercial mortgage portfolio spin-off likely requires equity and
financing from LEH. LEH plans to sell $25-$30B of comm. real estate which is marked at 85c. We see further marks of 10-15c, and expect Lehman financing of both the debt and equity. As a result of the debt financing, we
believe Lehman retains downside risk.
financing from LEH. LEH plans to sell $25-$30B of comm. real estate which is marked at 85c. We see further marks of 10-15c, and expect Lehman financing of both the debt and equity. As a result of the debt financing, we
believe Lehman retains downside risk.
NH:
55% of Inv. Mgmt. for sale – bids unclear. LEH is trying to sell the IM business and expects a minimal impact to profits. Given CEO Fuld’s standing in the financial community, we see success as possible, but the suitor needs Neuberger mgmt ‘buy-in’ which is unclear. We believe a spinoff will certainly mean greater earnings volatility, a less diversified earnings base, and a higher comp. ratio.
NH:
More write-downs to come and core business prospects uncertain. We are not comfortable with the marks on the commercial real estate portfolio at 85c and see further downside to the resi portfolio give potential structure with BlackRock. Core business also appears to be struggling with customer retention and employee morale. CFTC data indicates that in July Lehman lost 22% in FCM customer assets, data effective prior to recent confidence issues.
NH:
Lowering estimates. Low valuation does not peak our interest, and we are concerned about LEH’s ability to execute its strategic plan without further depleting the capital base. We maintain our Neutral rating and do not see the stock as investable unless LEH can execute on its plan.
NH:
Here’s Van Hesser from HSBC
PM:
He’s a credit analyst?
NH:
Yep
NH:
A work in progress
NH:
In an effort to restore confidence in its firm, Lehman Brothers did much of what it could do yesterday, in our opinion, in getting out preliminary Q3 earnings, such as they were, while setting a plan to materially reduce the pile of illiquid assets that have caused market participants to question the integrity of its balance sheet.
NH:
Through it all, there were positives in yesterday’s announcement, including (1) feasible plans to reduce commercial and residential real estate exposure; (2) marks against the problem assets seem to be conservative; (3) evidence that the firm can still make money, ex-writedowns; (4) devising a creative way to raise capital off of its investment in asset management, while retaining a significant amount of its earnings; (5) no diminution of the
firm’s liquidity pool; (6) reduced financial leverage; and (7) a commitment to continue to explore strategic alternatives.
firm’s liquidity pool; (6) reduced financial leverage; and (7) a commitment to continue to explore strategic alternatives.
NH:
The negatives from our perspective include (1) the firm has not been able to line up a strategic partner to backstop the firm; (2) it will have to finance—both with debt and equity—most of the planned spin-off of commercial real estate assets and the sale of $4 billion of UK residential real estate assets it is selling to BlackRock; and (3) it is still
overgrown. Moreover, investor sentiment—both credit and equity—is not favorable, indicating that there are scars from September 9’s powerful equity sell-off.
overgrown. Moreover, investor sentiment—both credit and equity—is not favorable, indicating that there are scars from September 9’s powerful equity sell-off.
NH:
But the biggest negative in our opinion might have come at 4:00 pm, when Moody’s belatedly opined on Lehman’s ratings. The agency put the firm’s long-term rating (A2) under review with the unusual qualifier that the direction is uncertain. The short-term rating was placed under review for downgrade.
PM:
Oh – that’s interesting – got to confess had not focused properly on the credit rating side of this story.
NH:
Ive got more on that.
NH:
Study this:
NH:
Ratings for a securities business are always important, but they are doubly so for a large, global firm, like Lehman. Smaller, niche firms can successfully operate in our opinion, with ratings below mid-single-A (Jefferies is an example, as was DLJ in the past). Moody’s even pointed out that Lehman was rated in the Baa category in 1998. The difference, of course, is that Lehman was much smaller back then. With $311 billion in net assets, Lehman needs an awful lot of counterparty risk analysts to vote confidently on the name to maximize its competitiveness.
NH:
The importance of mid-single-A is that is the breakpoint where short-term ratings go from “1” to “2”. In other words, if a firm’s long-term rating falls from mid-single-A to low-single-A, its short-term rating will drop to a “2”. That is a meaningful drop as the short-term rating is often used by counterparty risk analysts when setting lines of credit and collateral requirements. Should Lehman’s long-term ratings fall one notch (Moody’s and S&P, which is reviewing the company for downgrade, rate the company right on the breakpoint, mid-single-A; Fitch is reviewing its high-single-A rating), its short-term rating at Moody’s and S&P would drop to a “2” level, which would require the firm to post additional collateral with counterparties and potentially result in a loss of counterparty capacity. Moody’s referred to a potential downgrade as being “suboptimal” to Lehman.
PM:
Oh, jeez – it’s wet towel round the head time.
PM:
That sounds extremely significant.
PM:
Shame I cant get my head round it.
PM:
NH:
I know I know. But HSBC can help a bit I think
NH:
So, let’s go back to Moody’s announcement this afternoon. Essentially, the agency is saying that if Lehman is able to line up a strategic investment—not a financial investor such as a private equity firm—it would likely result in an upgrade. That does not sound so bad. However, “should a strategic arrangement fail to materialize in the near term,” the agency went on, “…the ratings would likely be downgraded, likely into the Baa category.” Moreover, the ratings would remain under review for further downgrade. When asked about a timetable on its conference call reviewing the announcement, Moody’s made it clear that such a strategic investment has to happen quickly.
NH:
Notwithstanding its inability to find a strategic investor, the firm is doing what it can to reduce the illiquid assets with the highest visibility, primarily commercial and residential mortgage assets. These assets have been difficult to hedge, and so management has decided that the “best hedge is to reduce absolute exposure.” At August 31, and pro forma for the upcoming sale of approximately $4.0 billion of primarily UK residential real estate assets to lackRock, mortgage and other asset-backed securities have been reduced to $41.8 billion, or 1.4x tangible equity capital, down from 3.3x at November 30, 2007. That figure should be reduced to approximately 0.8x if it can launch REI Global, the proposed spin-off of commercial real estate assets planned for fiscal Q1 2009.
NH:
Overall, we are comfortable with the concept of the spin-off and the portfolio, which is well diversified. We are concerned, however, with how much of the financing Lehman is having to provide in both the sale of UK assets to BlackRock (75%) as well as REI Global. In the latter’s case, Lehman will transfer equity equal to 20-25% of the assets, which is expected to be $25-$30 billion. That implies equity of $5- $7.5 billion, with the balance of the funding to come from debt that “may” be syndicated “as markets normalize.” “Core Lehman” could then be run theoretically with less capital, since the riskier assets have been substantially reduced.
PM:
Think we need a bickie break
Reminder to readers – if you arrived late and want to stop the dialogue ‘jumping’ as you catch up, hit the ‘pause auto-scrolling’ tab at the bottom right hand corner
NH:
Okay – I think this from Bank of America is more to your regular taste.
PM:
Ah, that’s be Tin Hecht – he was on the conference call yesterday.
NH:
Yep – Michael Hecht.
NH:
Lots of Talk, Not Enough Action; Reduce Ests. & Target; Reiterate Neutral
PM:
HEY! That’s the sort of research I can readily understand
NH:
Bottom Line: Wider than expected Q3 EPS loss was higher than expected on weaker core revs (in non-fixed income capital markets areas) & higher than expected comp expense while net markdowns (incl. gains on LEH’s own debt of $1.4B) were $5.6B, lower than the $6B assumed in our numbers. At qtr end, total risk exposures fell 25% to $56.9B; incl. transactions to close post Q3, expected reductions to risk exposures are an additional 48% to $29B vs. tangible common equity of ~$11B, still a less than ideal ratio to restore confidence.
NH:
While many questions remain, LEH announced the creation of a “bad bank” to house ~$25-30B of CMBS/CRE assets & capitalized by LEH w/ 20-25% common equity ($5-7B). We est. pro forma tangible book will be closer to $16/sh, vs. ~$22/sh tangible book at q3’08 &~$27 in stated book value per share. Under a stand-alone, LEH structure, & post additional capital raises we expect & writedowns on remaining risk exposures (incl. transfers to the proposed “bad bank” structure), we expect book value to settle in around $8-10 per share.
NH:
Lowering Ests, Reit. Neutral: Lower FY’08 EPS to -$13.55 (cons.=-$8.24), = 96% of EPS earned in ‘06 & ’07, & FY’09 EPS est, to $2.00 on asset mgmt biz. sale & lower client facing franchise earnings (cons.=$3.06), lower PT to $9.