by Bryce

Executive Summary

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By Forrest Lowell

I am not talking about in the next year or two or even ten years out, but rather 25 to 30 years in the future when I go to retire. There is no possible way with the deficits we are running today and the huge unfunded liabilities (trillions of dollars!) of Social Security and Medicare that taxes are not going to go higher. Couple that with a hopefully successful career in the business world which will move me into higher tax brackets in the years ahead and there is no rational explanation not to fully contribute all the possible money you can to the Roth tax structure. Good hedge funds always have some short positions to cover any singular event where their investment strategies are wrong, having money in a Roth tax structured account is a hedge against future tax increases. Just imagine how smart you are going to feel when you retire and you are in the new 60% tax bracket… but you paid the taxes on part of your retirement money today at 25%! You will definitely pat yourself on the back and say job well done.

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by Bryce

The short-term attention span of many people and similarly the media with respect to investing never ceases to amaze me. As mentioned by Forrest in “Has anything Changed,” are companies worth 20% more than they were two weeks ago? The common sense answer is no and yet their values as reflected by the equity markets indicates otherwise. I am by no means complaining about the recent rally but I would like to provide some perspective. 

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by Forrest

Chesapeake Energy is one of the most widely reported on stocks in the market, but this still doesn’t mean that the media is getting the story right. I have been a CHK stock owner for some time now and all it has brought me is pain, but I fear not because I believe in the story management has to sell. I have bought CHK at $70, $55, $45, $30, and $15 so needless to say I have not exactly been right on the timing of the story, but none the less I keep buying the more and more as it goes down and now is as good an entry point as you are going to get. First, some information on the company, Chesapeake is the largest independent producer of natural gas in the country and has pretty much staked it future on natural gas locked up in shale rock formations in four different basins. The Barnett, Fayetteville, Marcellus, and Haynesville shale plays represent their growth in production going forward.

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By Forrest Lowell

The financial news world has been extraordinarily singularly focused in the last 6 months on basically a hand full of stocks.  I think this has been at the expense of sound companies making long term structural changes in their business model that will keep them competitive in the emerging new economy.  I think one of these companies poised to consolidate and expand control over their industry is Microsoft.
MSFT has moved from 15 to 18 during the recent bull market bounce but it seems utterly left out of any discussion in the news media.  This is an opportunity to capitalize on the singular focus in bank stocks by really taking a step back and looking at the big picture, trying to find the companies that going to lead the real economy back into expansion.  Microsoft has several things going for it that makes it an attractive stock over the next 2-4 years.

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By Forrest Lowell

There is one more shoe to drop before the market can truly move higher in a convincing way. In my view this Shaquille O’Neal sized shoe is the commercial real estate market. The troubles of General Growth Properties (GGP) has been well publicized, but what about the other similarly structured companies? Just as a quick comparison I have included screen shots of General Growth’s and Simon Property Group’s balance sheets. Look at the two balance sheets and tell me which one is trading at 40 cents and which one is trading at $31.50.

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I think it is fascinating to watch OPEC almost panic over such “low” prices for oil, they have already announced production cuts of about 4.2 million barrels a day and quite a few members are asking for more at their next meeting in Vienna. A cut of 4.2 million barrels a day brings their official quota down to 24.84 million b/d which is now less than a third of global oil production. OPEC does not like to talk about it officially but it is widely believed that they would like oil in the $75-$100 dollar a barrel range. It appears that they are willing to go to great lengths to achieve this which is absolutely great news for Exxon Mobile and the oil sector in general. It appears that OPEC is willing to decrease their influence on the oil markets just to increase the price; to me this is an obviously self defeating plan that is great for both America and America’s oil industry. I am perhaps over simplifying my next statement but I think the oil markets will go something like the following. OPEC is going to keep decreasing production to push the prices up allowing two things to happen; One, Exxon and the other Integrated Oils will invest to increase production in both oil and natural gas because it will immensely profitable for them, and two, the American economy will more rapidly move away from oil in all aspects. Primarily the American and world economies will move towards a natural gas and renewable energy based industry which will further decrease the influence of OPEC over the western world. The US has an ungodly amount of natural gas already proven and I think we have just begun to explore. There is one part of my theory that I am still not entirely sure about, and that is whether the American people will accept paying a bit more for oil supplied by American companies vs. importing it from the middle east. As I see it now the integrated oils and other American companies control the refining capacity in the US and can choose which oil is supplied to them. I would think Exxon would choose to supply their refineries with Exxon produced oil first and imported oil second, but there might be considerable pressure on this decision if the imported oil is considerably cheaper. The easiest and most likely solution to this part of the equation is from Washington D.C. Whether it is some sort of tariff put on oil from the Middle East or a gas tax here in the states so the price of oil is less of a factor in the price of gasoline, I think there is the political will to do something. There are obviously many holes in my belief of what is to come in the energy sector and I will address them in posts to come in the future, but please feel free to point out any and all issues you see and potential solutions. I guess if there is one take away for the stock market it is buy Exxon Mobile and never look back. They are the definition of American capitalism and have rarely let their shareholders down; they did not over invest at $147/barrel and are not under investing now at $43/barrel.

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As was widely reported today GE’s credit rating was downgraded to AA+ by S&P.  For the sake of argument (heavily sarcastic tone) we will assume that the ratings agencies are not criminals that deserve to be thrown in jail, but are actually highly trained professionals in the science of risk management.  GE’s credit ratings had been rated with a “negative” outlook for the better part of the credit crisis with S&P probably the first of the three ratings agencies to downgrade the company to one notch below the highest possible.  This change of ratings is actually a relief for me as a shareholder and here is why.  There has been some speculation, and I agree, that the ratings agencies have over corrected to being too conservative after being almost criminally negligent for the better part of the middle years of this decade.  So if in this environment GE’s stock has been pummeled because of their perceived exposure to further credit risk, and an overly conservative ratings agency gives it a rating of AA+ with a stable outlook, how can you not love the company!?  In the worst credit market in the past 70 years GE is still rated only one notch below the debt of the United States government, not bad GE.

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Tomorrow the FASB is possibly going to issue guidance on how to apply the mark-to-market rule for the financial industry.  Right now assets on a bank’s balance sheet have to be valued at what the bank could go out to the market place and sell them right now.  Of course the problem being that there is almost no market right now for securitized mortgages in the US with “bad” loans in the portfolio.  This is forcing the banks to write down the value of these assets to very low levels which affects the amount of capital that they have to provide in order to properly leverage their balance sheet.  Capital is basically the banks own money, they keep this money in a big room and then loan out the depositors money.  If a bank has $50 billion in capital and $500 billion dollars in outstanding loans then their leverage is 10 to 1.  the problem over the past year is that the value of the mortgages are in question.  If the bank lent a person 100% the value of the home and the value of the house has fallen 50%, the homeowner might choose to walk away from the house and let the bank sell it.  If this happened to 10% of the mortgages the bank owns they would have to “write off” 25 billion dollars against their capital, decreasing their total capital to 25 billion and while only decreasing their loans outstanding to $450 billion.  This would increase their leverage to 18x, even though 90% of their loans are performing just fine.

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For the sake of brevity, I will not go into great detail to explain why inflation is a real risk in the medium to long-term. Very astute and renowned investors have commented on inflation and I will let their words convey the point.  (more…)