Wednesday, November 28, 2012

Word to Investors (and Sleepy Citizens): The FIRE Economy Is Alive and Well

Slate ran an article on November 26, 2012, claiming that 88% of the earnings growth in the S&P 500 companies came from just 10 companies, with nearly 60% of that growth coming from 4 among this 10:  Bank of America, Apple, AIG, and Goldman Sachs.  And keep in mind that Citi and Wells Fargo were also among these top 10.  Here is the article:

What conclusions can we draw from this:

 1.  Apple, which was the biggest single contributor to earnings growth, is one heck of a company to be able to generate these kinds of earnings in a world where the only other folks who can make money are banks and insurers.

2.  These figures may be skewed because large banks and insurers had their earnings sharply depressed in recent years.

3.  The financial collapse has done little to stop the inordinate flow of profits to the FIRE (Finance, insurance, real estate) sector of the economy. 

Wednesday, November 21, 2012

Mortgage Insurance Part 4: The Dangers of Number Blindness

Since I already purchased both RDN and MTG based on some of the analysis I've written about in previous posts on mortgage insurance, I'm soon going to turn my attention to other opportunities.  Before I do, however, I wanted to write a final piece on mortgage insurance because it illustrates the divide between two approaches to investing.  Namely, the tension between a numbers-based approach and an approach based on a realpolitick assessment of the state of the world and a particular industry.

Oliver Davies has done some nice analysis on Seeking Alpha, which concludes that RDN is at risk of insolvency and is certainly a much riskier investment than MTG, due to slow-paying claims and inadequate reserving (among other factors).  See here for Mr. Davies' summary of his thoughtful research:

A comment to this article illustrates the divide of perspectives that I mentioned, however:

"So right. Radian has made it through the housing crisis and out the other side. Now that real estate and all tangential markets are improving, the Fed will definitely question their reserve assumptions and try to close them down. What better way to usher in the housing recovery everyone is waiting for than taking down one of the premier MI issuers. Sheer genius.

P.S. I'm sure Fannie Mae almost hired S.A. Ibrahim a couple of months ago because they detested his MI practice. You are definitely onto something here. Have you proposed this to Fox News yet?"

This comment's tone is unfortunately typical of  many comments on Seeking Alpha but, I must say, despite its tone and lack of deep numerical analysis, I side with the commenter and not Mr. Davies.  The federal government wants to keep private mortgage insurers in business and the fact that Radian has survived this long suggests to me that they are going to survive longer.  Mr. Ibrahim's apparently cordial relationship with the Fed is just icing here.

Thus, an investor must be careful about being blinded by the numbers, particularly in certain industries.  Let me put it another way:  if you've lived through the last 4 years in this country, do you still believe that a company's reported numbers can reliably determine that company's chances of survival -- particularly when that company is a financial institution or insurer?    

Friday, November 9, 2012

Mortgage Insurance: Part 3

One issue I did not mention in my prior pieces on mortgage insurance was that MGIC had sued Freddie Mac over capital requirements that Freddie had imposed on MGIC which, if implemented, would have precluded MGIC from writing policies.  That suit is apparently in the process of being settled:

There are some possible stumbling blocks to this resolution, however.  Namely, Freddie (and the Wisconsin insurance commissioner, which oversees Milwaukee-based MGIC), want assurance that MGIC is sufficiently capitalized to cover its risks in certain states.  As a result, MGIC's holding company will have to make a capital infusion into the MGIC unit -- although a significantly lower one than originally required by Freddie. 

In the type of shell game we have come to expect in the financial and insurance sectors of our economy, MGIC has gotten Freddie's approval for an end-run around its overly high risk ratio in other states:  it will simply have a new unit, MIC, which has a lower risk ratio than MGIC, write policies in these other states.

My take:  state and federal regulators, Fannie, and Freddie all want MGIC to survive -- although it is possible that MGIC will be unable to meet even the reduced requirements set forth by these entities.  So MGIC undeniably presents some investment risk.  Putting aside the moral implications of yet another example of rules being changed to allow failed institutions to survive -- this blog is about investing, not philosophy -- MGIC looks like a pretty good junk bond equivalent.