Friday, January 11, 2008

Countrywide: I'm saved!

What should we take away from the Countrywide/Bank of America deal?

First, its obviously good for market liquidity that Countrywide won't wind up in bankruptcy. While I think the economy could have handled a Countrywide liquidation, it would have been painful and messy. I'm sure Ben Bernanke is happy about this turn of events. Notice that Fannie Mae and Freddie Mac stock were both up solidly today.

Second, it tells you that Bank of America, at least, is willing to look past the current period into a time when the mortgage business has improved. We all know such a time will come, and the banks which have strong capacity at that time will enjoy strong profits.

Third, this obviously puts Washington Mutual in play. Today WaMu stock opened up about 7%, and their bonds rallied significantly. J.P. Morgan is rumored as the acquisitor, and there is probably only a couple other banks which would even be possibilities. I heard Wells Fargo's name mentioned, and they'd have the capital, but it would be a strange marriage for such a conservative bank. You could also imagine some Mid-West or East Coast bank having interest in WaMu's geographical footprint, but I'm not sure any such banks have the spare capital to absorb WaMu's problem assets. US Bank? Fifth Third? PNC? I doubt it. If I'm Jamie Dimon, even if I'd really like to own WaMu, I wouldn't let BofA's move force my hand. JPM may be the only actual bidder, and WaMu is probably only going to get more desperate.

We should all remember that the credit market will likely improve before the economic picture does. In other words, the credit market is forward looking, and currently spreads indicate that the forward picture is bleak. All it will take for improvement in credit spreads is for conditions to indicate that the future will be somewhat less bleak. I'm seeing too many commentators merely conclude that credit (or stocks) are a bad play simply because the economic picture is poor, which is inadequate analysis. In order to be bearish on a security, you have to assume that conditions will be worse than what's priced in. By the time conditions actually improve, the market will have long since risen.


Anonymous said...

you have to assume that conditions will be worse than what's priced in

That's the nub.

When Krugman says that he doesn't know if the Fed really can do anything at all about the housing disaster, because the price/rent ratio is still sky high, I wonder what has been priced in and what hasn't.

It is impressive that there is a both a bear bias and a bull bias out there. It isn't just stubborn permabears laughing at good news. said...
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Anonymous said...

AI: What should we take away from the Countrywide/Bank of America deal?

Answer: Too many companies are being run by ego, not by smarts.

As you point out later, JPM isn't likely to jump at WaMu because they are likely the only bidder-- and the longer JPM waits, the cheaper they could get WaMu.

BAC has (had?) a first dibs option on Countrywide after blowing $2 billion shoring them up only a few months back. There was no good reason to jump in now; Ken Lewis could have waited a few more months and picked up Countrywide for half of what he just paid. What in the world was the hurry?

There is too much cronyism in corporate America. Too many CEOs are in position because they belong to the right country clubs, and not because they actually have the talent or leadership skills or smarts.

And what of the target Countrywide? Captain Suntan is marching off with $86 million in severance (plus another kings ransom in past paychecks). How can you call this merit based? That is probably 50 times what the average Joe makes in a lifetime for doing his job correctly. This Mozillo loser gets the money in one year for running his company into the ground. Maybe he can play golf with Stan O'Neal who got $150 million for being a screw up? Or how about Nardelli getting $100 million to almost bury Home Depot? Ken Lay's wife is sitting on hundreds of millions from his estate that came from his CEO "skill". Chuck Prince "only" got $50 million for flying Citi into the side of a mountain.

The board of McDonalds paid their late CEO $30 million, giving the laughable reason that there are very few people who can run large corporations successfully; the guy is difficult, if not impossible to replace. Well, the guy gets killed in an airplane accident and guess what? McDonalds was suddenly able to find a replacement (from outside the company) in under two days.

Boards of Directors need to stop lying to themselves. These CEOs are far from irreplaceable talent that deserves tens of millions. Its high time to yell out that the emperor has no clothes. Cut CEO pay down to reality (like $2-3 million). Replace any over-sized ego that objects.

In the meantime, Ken Lewis should be required to reimburse BAC shareholders for the $3 billion he overpaid on Countrywide.

David said...


Amen! While I may not agree with the particulars, I think you give expression to a sentiment that we all justifiably have. Something is not quite right about the balance of power and the distribution of wealth in corporate America. My Stern/Wharton friends who pronounce their mantra of the infallibility, rationality and efficiency of the markets need to look around themselves a little more. Efficient markets wouldn't go through cycles of boom and bust, where the most reckless cannot be left to learn their lessons, because they are too important to the overall economy; such markets wouldn’t reward poor stewardship/executive performance or those who most nonchalantly gamble shareholder money; they wouldn’t be so deeply influenced by an incestuously small group of bankers, whether on Wall Street or in Washington.

At base, however, it is impossible to fix any one particular problem (i.e., CEOs being rewarded for destroying shareholder value), without turning attention more generally to our corporate culture as such. Indeed, from Enron to Arthur Andersen, from WorldCom to Etrade to Countrywide, whether we are talking about oil companies that in times of record profits have avoided paying royalties for drilling on Federal lands or about no-bid government contracts worth billions given to Halliburton, something is not quite right.

Perhaps we have been too successful’ perhaps, like the Romans after the transition from Republic to Empire, America has grown corrupt; perhaps, ours is an age of decadence. Anyway, I don't want to carry on as this is not the place, but I just wanted empathize with the spirit of the comment posted above.

Moreover, as this my first post, I wanted to thank you Accrued Interest for the great work you do here on your blog. Your entries are always well thought-out, well-written, provocative, and soberly balanced as can be seen in your responses to comments. Thank you for the education.


gramps said...

If you go back a year or two, you may remember the enormous conniption the US Congress had when Dubian investors (basically the Dubai govt) wanted to buy a British shipping company that happened to operate a few US ports. Dubai houses the largest US military base in the middle east (having replaced Saudi Arabia) and has been instrumental in the war on terror. Most members in Congress don't know Dubai from Iran from Denmark, and there was no way they would allow "evil doers" to control US ports, even if the evil doers were in fact our allies.

Fast forward to the present. The UAE (of which Dubai is part) recently pumped billions into Citibank, becoming the largest single shareholder.

And now the FT is reporting that Citi wants to raise another $14 billion in new capital from (drumroll here please) the Chinese government. Actually $9B is from China, with the other $5billion coming mostly from Kuwait (Kuwait is our ally in real life, but not sure if Congress knows that or not).

I still say AI is wrong in claiming we have a liquidity problem-- it is predominantly, if not exclusively, an insolvency problem.

All the emergency capital raising by Wall Street supports my view. The fact the Fed lowered rates 100bp (so far) with almost no effect on the TED spread is further proof.

I suppose that if one is insolvent, you are technically also illiquid-- but I hope AI isn't going to split hairs again. The disease is insolvency, illiquidity is at best a symptom.

The Fed can effect liquidity / credit availability-- but it can do nothing about insolvency, and nothing about bad business models (assuming house prices can only go up, positions that are so large that they break the house when they go bad, etc).

Most of all the Fed can not do anything about the fact that home prices, as a multiple of income, are still three standard deviations above the historical norm. Home prices have to go down, or income levels have to go up.

The Fed is irrelevant.

gramps said...

Whoops, I guess I was supposed to tie my last comment to the B of A / Countrywide buyout.

I don't understand BAC's thinking. As both AI and the anonymous guy pointed out, BAC could have waited until more of the bad loans become apparent and were recognized-- meaning BAC could have bought CFC at a much lower price. BAC also could have offered to help "raise cash" for CFC by buying the servicing division (in effect, cherry picking the best asset).

But the biggest issue I have with the buyout is that I don't think its purely a matter of waiting out the storm. Yes, I agree that the housing market will recover in a few years -- but I think there needs to be a couple large bank casualties before we reach bottom (its an insolvency problem!). It doesn't make sense for BAC to double down on a losing hand - they aren't going to get any info about the other players hands, they aren't going to eliminate any other players (except CFC, which is gone anyways)... so why do it?

Its kind of interesting to mention that CFC rejected a buyout offer from BAC two years ago for about $30 per share (I don't remember the exact price?). Now they are agreeing to sell for $6-7 per share?

But I think BAC could have bought CFC for nothing more than assumption of debt if they had waited another 6-12 months. Even better, they could cherry pick the best assets in bankruptcy proceedings (eg the servicing dept?) and leave the bad debts to CFC's shareholders and creditors. Why take on the bad debt headache if you don't have to?

If the objective was to maximize BAC shareholder value, this wasn't a good deal... evidently, that isn't BAC's objective

Anonymous said...

At this point in time would you update your thinking on High Yield given the fact that spreads have increased substantially since your last post on 09/05/2006?

Anonymous said...

Everyone seems to be stumbling over the following problem:

Ken Lewis could have waited a few more months and picked up Countrywide for half of what he just paid.

Northern Rock is in the process of being taken over by the British Government. When the inevitable government bail-outs of the banks occur, it is going to be a lot easier for Bernanke/Paulson to testify before Congress why they're bailing out the Bank of America than why they're bailing out Countrywide.

In a nutshell: where it's possible, lenders are being made too big to fail...and preferably with a patriotic name if possible.

The visible banking system (as opposed to the invisible one that Gross talks about) is collapsing. The powers that be know it. They are preparing for the time when the lifeboats are launched.

Of course, I'm probably wrong, but what I am saying is largely congruent with what Gramps is saying which is largely congruent with what Krugman is saying which is largely congruent with what the British Government is doing with Northern Rock.

Anonymous said...


From a bond portfolio perspective, is it far easier to make money from credits, govies or agencies or_?

If time/effort is limited, which is best to specialize in order to become a portfolio manager?


Anonymous said...

What does "too big to fail" mean? I think that's the most timely question before our panel.

Here's what I think it means.

Exporting countries (China, Japan, Dubai, etc.) lend the United States financial industry billions and billions of dollars which, lo and behold, disappear. Through this ploy they make themselves too big to fail before their exporter creditors who have little choice but to throw good money after bad and buy them.

BWIC said...

CW is the first mile post on 12 miles of rough road. I can recall hearing talk of CW being in play back in '05 and the list of bidders has always been short and BOA seemed to make the most sense.

Wamu has been prepping itself for take over since early fall and when they cut back their excess origination capacity and thus closed their broker dealer. Wamu was a first mover on this front but CW got a major kick in the ass to get moving.