The Simplified Investor

Last week’s news that the unemployment rate is soaring wasn’t met with surprise; but what is news is how many educated and employable people are jumping on the jobless bandwagon. As the Economix blog smartly reports, the number of college graduates with jobs fell 282,000 last month - but just 2,000 of them have looked for a job in the last four weeks. So why are 280,000 educated and unemployed moving from Midtown to Slowdown?  It’s a hard fall from Wall Street to the workforce, and fired financiers are no different from the rest of us; its tough to find a job in Christmastime.

So what are all those idle bankers betting on this holiday season?  Well, depends which bank fired them!

Citigroup - Abercrombie and Fitch (NYSE:ANF)

We all know the kind of guy that goes to work at Citigroup - he wore the polo shirt with the collar up and pretended he knew what he was talking about while tagging along with whoever he thought was the coolest guy in the room.  Well, we’ve got a stock for this sycophant who still hasn’t gotten the recession memo - it’s been twelve months, dude! - Abercrombie and Fitch.

The company is known for its preppy (lame) clothing and aggressive (naked) marketing campaigns…and it’s recession proof!  At least according to its CEO.  ”We hear your concerns,” Michael Jeffries said last month, but “promotions are a short-term solution with dreadful long-term effects.”  So Abercrombie won’t be offering any special deals this holiday season…and while competitors like American Eagle (NYSE:AEO) are fighting the slowdown by offering deals like “Buy one shirt, get the second 50% off!” Abercrombie’s going to keep charging $60 for a polo shirt.  So just show Mom what you want…and she’ll walk down the mall and get you two shirts, instead of one, for 50% less at American Eagle ($30 for two polos after the mark down).  I wonder who’s going to get more business this Christmas?

To be fair, AEO’s approach puts a hurt on its gross margins, which slid over 6 points in the thrid quarter to 41% of sales, while Abercrombie’s stayed relatively flat at 66% of sales.   But can the higher gross really make up for all of the lost business?  It’s hard to believe that Abercrombie’s brand is strong enough to beat economic realities…unless, of course, you’re concerned with style, not substance (a model that’s served Citigroup quite well over the years).

Merrill Lynch - McDonald’s (NYSE:MCD)

Just pure genius, the way Michael Lewis described Merrill’s place in Wall Street’s pecking order in his recent expose on the financial fiasco.  Picture the playground pickup game, with the big kids (Goldman Sachs, Morgan Stanley) running the show…”Merrill Lynch was the little fat kid assigned the least pleasant roles, just happy to be a part of things.”

Well, what better stock for the fat kid than McDonald’s?   It’s easier to eat cheap as the economy sours, and more people are turning down sit-down dinner for a Big Mac as the recession goes on.  McDonald’s earnings have been strong all year, and Monday MCD announced overall same store sales increased almost 8% in the last month and 4.5% in the super-slow U.S. market. Of the 30 companies in the Dow Jones Industrial Average, only McDonald’s and Wal-Mart have higher stock prices than they did a year ago.

Analysts are worried about the negative effect of currency exchange on McDonald’s overall earnings, since so much of its business is in international markets.  And if the economy turns around, MCD’s advantages might evaporate quickly.  But when you’re the last pick on the playground and slow to the ball, you’ve got to take whatever you can get…and McDonald’s could be a nice, low-risk play for the old Bulls of Wall Street.

Goldman Sachs - Goldman Sachs (NYSE:GS)

What could be a better play for the arrogant king of the castle?  Buying yourself is kind of a dirty trick…but it might actually make some sense for those forced into early retirement by one of the last bastions of Wall Street.  Goldman’s not a pure-play investment bank anymore, and as a result risk (and reward) will be reduced, resulting in lower profits.  But “lower profits” is a bit of a misnomer when it comes to Goldman, which was making money hand over fist on derivatives and other investments before the recent subprime write-offs and punishment of the market.

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Goldman’s stock price is down almost 60% since June, and the WSJ reported last week that Goldman would post losses up to $5 a share when it reports earnings this month.  But the Columbia Journalism Review picked up on something funky here - nowhere in the report was a Goldman source cited, and an accompanying graphic showed a loss of just under a dollar a share.  So maybe the bleeding isn’t really that bad…or maybe Goldman is planting a seed to get bad news into its stock price early.

It’s this kind of savviness that Warren Buffet loves - and he believes in Goldman enough to invest $5 billion in the company in September.  News that it was thinking of joining the internet banking business sent ripples through a skeptical market last week - but this shouldn’t impact Goldman’s core business, and in fact may strengthen it.  It could be enough for an ‘09 rebound for GS stock, and the company’s former employees might get one last handout from their old cash cow.

Thanks to Gary, who contributed this comment on a post about the Baltic Dry Index a week ago -

“What great time to buy shipping stocks - before you know it demand will be back because pent-up demand will force products to ship. Stocks like Genco (GNK) and others will expode again.”

Not sure about the “explosion” you’re anticipating, Gary, but I’ve got to agree with you on this point - demand for the dry bulk shippers will be back. Dry bulk goods, like metals and grains, are the foundation of economic growth - and even as the world’s economy shrinks in the short term, its population (and corresponding demand for food, energy, and consumer products) continue to grow in the long term.

If only I had paid attention to Gary’s advice on Friday afternoon and pulled the trigger on a dry bulk shipper. I’ve been tracking DryShips (NYSE:DRYS) for a while now, and it’s ugly - down 96% in the last six months. That’s a huge number, but in line with what’s happened to the Baltic Dry Index (down 92% in the same period). Since the BDI measures the price of shipping dry bulk goods, as this price bottoms out, so do the prospective earnings of companies like DryShips.

But the BDI may finally have hit bottom. It’s been pretty much flat since November 3rd…and it really can’t go much lower, so its just a matter of time before the climb.   So if you do believe in shipping stocks, which one to pick? Here’s some of the companies to watch:

Key Companies in the Dry Bulk Shipping Industry

Zeroing in on one of these companies - Genco Shipping (GNK) - you see the potential for explosive growth that has captivated investors like Gary. Revenues grew 235%, and net income almost 400%, between 2005 and 2008 as shipping rates reached incredible heights. The driver of the company’s growth has been Chinese demand, which spiked at 3 billion tons of dry bulk goods in 2007 - and that’s been part of the recent decline, too, as Chinese demand has dried up along with the global economic slowdown.

Let’s assume that Chinese demand will pick back up, and look at a few of the fundamentals of Genco’s stock and business. GNK earnings per share were $8.54, and P/E ratio was at 0.86 at market close on Friday. That’s eye-popping - but not so much as the $4.00 per share dividend, for a yield percentage of 54.6% according to Friday’s share value! You can be assured, though, that the dividend will decline this quarter since the stock price has rocketed south.

Genco’s current ratio (current assets to current liabilities) is over 7 - rock solid as a measurement of the company’s ability to meet short-term debt obligations. But total debt-to-equity is less rosy, well over 1, but that’s standard in an industry where the major fixed cost is ship-building, and companies often take on big debt obligations to grow in the short term. Also worrisome is Genco’s PEG ratio (a measure of potential for earnings growth) at just 0.11. This likely reflects the pain that the BDI and the industry as a whole have been feeling lately, and forecasts can change quickly if demand picks up again.

It’s just a snapshot - but I’ve got to think that the optimism surrounding these companies is pretty well grounded. At any rate, its a good time to take shots at undervalued stocks, while prices scrape bottom - and with strong fundamentals, dry bulk shipping is a gamble you’re unlikely to regret.

It seems like the wrong time to be buying stocks right now, considering that every day the market hits a new bottom. On Thursday, markets closed at their lowest point in nearly six years, with the Dow Jones Industrial Average finishing the day at 7,552.29. And its not just stocks that are hurting; oil is below $50 a barrel and 30-day Treasury bonds are yielding less than 1% as investors demand safe havens for their money…its ugly on Wall Street, and people’s savings on Main Street have felt the pain.
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One of the lesser-known fundamentals underpinning the global economy is the Baltic Dry Index, a benchmark that measures dry-bulk shipping rates. Dry bulk goods include the most commonly used raw materials, like grains, coal, and metals. When global economies are booming, demand for these inputs (and the ships to transport them) fuels high day rates for companies like DryShips (NDAQ:DRYS) to transport these goods across the world’s oceans.

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Last week, things looked bleak for equity investors. As the Dow Jones and S&P 500 slid to historic lows, and the TED spread soared to a historic high (more on that below), it looked to many like the thing to do was pull out of stocks entirely, and enter safer assets like gold, T-bills, and steady bank savings accounts. But on Monday, the market bounced, led by the news that the U.S. government will invest up to $250 billion to shore up the U.S. banking system in a plan similar to measures taken by several European powers, including Germany and the U.K.
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The Dow Jones Industrial Average fell below 8600 today - bleeding another 7% to continue the incredible losses that have take place all week. It seems like the much anticipated bailout has not had the effect that many anticipated - rather than assuading investor concerns that the worst of the financial crisis was over, it was an inadequate leavy in a flood of capital out of the equity markets and into more stable gold and treasury bonds.

And there’s reason to believe that the markets will keep falling in the great financial crisis of 2008. Some major macroeconomic indicators point to tough times in coming quarters.

Here’s a top 5:
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I know what you’re thinking - why invest in Apple when its stock price fell 18% today? But think literally about apples, which you’ll find in any outdoor fruit stand on the streets of New York. Today, our sadly ineffective government failed to pass its so-called “bailout” plan. The meaning is clear - our economy is going to get a whole lot worse before it gets better. People are going to be out of their jobs (some estimate as many as 6 million Americans will soon be unemployed) - so saddle up the push cart, hit the pavement, and get ready to earn a living one apple at a time.

September 29, 2008 Vote, U.S. House of Representatives

What happened today was historic, and the market knew it. $1.2 trillion was erased from the market value of American stocks as frightened investors fled for the safety of gold and government Treasury bonds. The Dow Jones Industrial Average fell 777 points, the largest one day decline since the index was first published in 1896. The S&P 500 fell almost 9%, a drop not seen in two decades. Meanwhile, Wachovia Bank was bought by Citigroup for $1 a share, making it just the latest financial institution to surrender in a fear-driven downward spiral that has crushed venerable institutions like Lehman Brothers, Merrill Lynch, and Washington Mutual in recent weeks.

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On Tuesday, Deutsche Telekom AG unveiled the first smart phone that will use Google’s new Android operating system.  The device is called the G1, sold by Deutsche Telekom’s subsidiary T-Mobile, and it looks a lot like the iPhone and other competing smart phones (well, except for the Google logo on the back).  But its the software, not the hardware, that T-Mobile and Google hope will set this new product apart. It will need to be special to crack the dominance of RIMM’s Blackberry and Apple’s iPhone in the smart phone market.  Those two companies controlled a combined 65% of the market in 2008, ahead of a long list of competitors that also includes PALM, Motorola, LG, and Samsung.

Smart Phone Market Share as of May 2008

But smart phone users are savvy folks, and they’re looking for devices that will make life more efficient, and more enjoyable.  That’s where the cache of Google’s brand name comes in.  But will Android work as promised?  And, importantly, what effect will this new product have on the earnings (and stock prices) of Google, Deutsche Telekom, and the other companies involved in the cell phone industry?
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As the WSJ reported today, the collapse of Lehman Brothers and the sale of Merrill Lynch to Bank of America is just the latest chapter in a stunning redesign of the financial world.  Stand-alone investment banks are dying rapid deaths, with three down in 2008 already (who can forget the spectacular demise of Bear Stearns?).  In their place, a new king is rising - commercial banks.

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The government takeover of Fannie Mae and Freddie Mac will have far-reaching economic effects.  For example, hedge funds that bet against the two companies have already seen windfall profits as the stock prices of both companies plummeted over the weekend, while the financial institutions that invested in the nearly $5 trillion in mortgages and mortgage-backed securities that FNM and FRE guarantee can breathe a sigh of relief.  The government bailout should help avoid a global financial crisis - but it might not help all of the Real Estate Investment Trusts (REITs) that depend on loans from Fannie and Freddie to finance their growth.

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