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Stock Ideas Investors Daily Edge Dont Trust these companies TPG Capital, KKR Financial (KFN)...
Stock Ideas Investors Daily Edge Dont Trust these companies TPG Capital, KKR Financial (KFN)... 
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By Rick Pendergraft Tomorrow morning we’ll find out what the Fed discussed at last month’s meeting and why they chose to cut both the Fed funds rate and the discount rate. The minutes from that meeting will be released at 2:00 pm tomorrow afternoon. |
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| Dont Trust these companies TPG Capital, KKR Financial (KFN)... |
| Tuesday, 07 October 2008 | ||||||||||
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Love it or hate it, the $810 billion, pork-laden bailout is now a fact. After all the preaching and political maneuvering, the market reacted to its passage on Friday with a yawn, followed by a sharp drop. But one thing I do know about the bailout is this. The government won’t be spending a trillion dollars without some companies making huge bucks. In the war in Iraq, for example, it’s the oil services, big construction companies and security firms which made out. Following government money is a time-honored and proven way to make money. Heck, the entire defense sector is predicated on this strategy. Northrop, Raytheon and Lockheed have done it successfully for decades. Fact is, the bailout will cost more than the Iraq war. Companies are already forming a line and raising billions of dollars to “help” the government carry it out. The bailout will create two distinct markets. One is completely government-controlled. The government will be using its trillion-dollar budget to purchase bad debt at the prices it sets. The government will also be selling that debt through auctions into the private sector. That’s the other market, and this is where things get interesting. Real estate companies, hedge funds, and private-equity funds have raised tens of billions this year alone for the specific purpose of buying distressed debt. Then there’s the half trillion dollars of private-equity money forced on the sidelines when credit dried up. More than 60 transactions announced in 2007, valued at a combined $180 billion, have been abandoned. Normally, this money would be used to finance leveraged buy-outs. But there’s no law that says the funds can’t be used to buy bad banks’ bad debt from the government, or buy into banks once stripped of their bad debt. Lots of options here but LBO funds might just want to stick to their knitting. For example, TPG Capital handed Washington Mutual $7 billion a couple of months ago which was wiped out when WaMu went into government receivership (because of how the deal was structured, TPG itself probably lost less than $2 billion – that’s still not chickenfeed).
If buying bank equity is risky, then how about buying their bad debt? I wrote about a year ago in this space that they haven’t invented an x-ray machine capable of seeing through the complicated debt instruments that banks hold. That is where the risk comes from. Banks didn’t (still don’t) know exactly what kind of collateral is backing up their debt paper. The bailout is about to kick off the biggest fire sale of real estate in U.S. history. Whatever you want can be had at big discount prices. Hotels, apartment complexes, office buildings, shopping malls, condo complexes, residential home developments... companies will shortly be able to get them for pennies on the dollar. But there’s just one small problem... Companies that go after these properties will also be inheriting foreclosed homes, property saddled with liens, half-built developments, and so on. How much bad stuff is mixed in with the good stuff will determine how much these companies offer for the debt they’re buying ... if they’re able to deconstruct these complex debts. They may not be able to. Sifting through the bad debt of the savings and loans was a walk in the park compared to this. Back in those days you could do it one bad mortgage/property/development at a time and you had all the documentation to figure things out. Does it need repairs? Are the tenants credit-worthy? What’s the neighborhood like? Private-equity companies made big profits by snapping up distressed properties at bargain prices, fixing them up, and selling them off. This time around, those who want to play the game will have to check out thousands of properties at a time. The banks couldn’t/wouldn’t do it. They used fancy formulas instead. And they got into big trouble as a result. The ratings agencies couldn’t/wouldn’t do it. And they gave bogus ratings on this debt as a result. Now vulture companies and ambulance chasers are zeroing in on this debt. Can they dig deep enough to know exactly what they would be buying? If they can’t or won’t, will they manage risk any better than the hundreds of banks in need of rescuing? Will you be able to trust these companies – firms like TPG Capital, KKR Financial (KFN), Carlyle, Apollo Group (APOL), Blackstone Group (BX) and banks such as Goldman Sachs (GS) and Citigroup (C) which have private equity teams – with your money? They could be the next great money-making sector. Or the sector that produces more hype than profits. Don’t get pulled in by the hype. I’m betting there’s going to be a lot more big losers than big winners in this game. Then there’s this. It took the markets one year to recover from the less complicated savings and loan crisis. It took the real estate market two years to recover. It took the economy three years to recover. The scale and opaqueness of this crisis is much bigger. You can probably double those numbers this time around. Invest well, Andrew P.S. To let me know what you thought of today's article, send an e-mail to: This e-mail address is being protected from spam bots, you need JavaScript enabled to view it
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