On Monday, it was announced AT&T would like to acquire T-Mobile. Deutsche Telecom, current owners of T-Mobile, want to exit the U.S. market. This deal will continue to receive scrutiny going forward, and will continue to receive attention regarding the issues of financing and the anti-trust ramifications. Expect more posts in the future. Below is an article from DealBook that I think does a good job highlighting the deal and deal's total costs.
AT&T's Full Cost for Getting T-Mobile (click here)
I try to be slighly contrarian in my thinking, so articles like the one below perk my interest. The article is about the bridge loan JPMorgan is providing to AT&T, as the loan is the large single takeover loan ever provided by one bank. Key reasons why JPMorgan decided to go it alone include: 1) excess reserves, short-term loans; 2) dominating the replacement of the bridge loan as AT&T will need to repay the loan with proceeds from a debt or equity issuance; 3) flight to safety as AT&T is too big to fail; 4) indication of a credit bubble.
In my opinion, all of the articles above seem very credible and make very good sense from JPMorgan's viewpoint. By being involved in an oligopoly, AT&T is a very safe company and JPMorgan will be able to earn a higher rate of return on large amount of excess cash than it currently is. Furthermore, as the economy and credit markets continue to improve, JPMorgan is trying to get the "swagger" back and show it is now the "big dog" on Wall St.
How to Think About JPMorgan's $20 Billion AT&T Loan (click here)
Fed Stress Tests
On Friday, it was announced that several large U.S. banks passed stress tests. Big banks included JPMorgan, Goldman Sachs, and U.S. Bank to name a few. As a result of these stress tests, these banks can begin to pay dividends and re-engage in share repurchase programs. In my opinion, the outcomes of these stress tests are both good and bad.
On the good side, it is great these banks can begin to start paying dividends again. Going into the financial crisis, banks like Bank of America were dividend darlings. When the crisis broke, dividends were greatly reduced or suspended entirely. Allowing banks pay higher dividends should be a positive for the sector, as more institutional and retail money should flow to take advantage of the higher yields.
On the bad side, I am weary of the share repurchase program. These programs often do not work and deplete capital. Going into the financial crisis, most banks engaged in share repurchase. Banks continued to repurchase shares at the peak, and only then issue shares at the trough. Not a good use of shareholder capital! Share repurchase programs often depleted owner's equity and cash the banks need to act as a cushion during the crisis. I just hope bank's are more prudent in all areas during this next cycle.
Thumbs up to dividends, thumbs down to share repurchase programs!
A Test Where the Banks Had the Questions and Answers (click here)
With Fed Consent, Banks Raise Dividends and Buy Back Stock (click here)
Citi - reverse stock split and dividend re-instatment
Many investors feel Citi (C) is a buy, but there are still many issues at the bank. Monday's announcement of a reverse stock-split and re-instatment of the dividend are more symbolic gestures. Citi announced that there will be a 10-for-1 reverse stock split. In other words, for every 10 shares of C that an investor owns, they will now own one share. I would like to elaborate more on the reverse stock split.
In a normal environment, a firm wants to have a stock-split if they expect the firm's shares to continue to peform well. This is predicated on the belief there is a "sweet spot" for the share price. The "sweet spot" varies, as I have heard all sorts of ranges. I believe a safe assumption of the "sweet spot" is a range of $20 per share to $100 per share. So, if shares rise to $110, management will often have a 2-for-1 stock split. The idea behind this is that investors like to own shares when they trade at certain prices. Shares of companies like Google or Apple that trade in the hundreds of dollars may be "too expensive" for investors.
What does the reverse stock split signal to the markets? When a company has a reverse stock split, it is essentially is a signal to management the firm is not confident the firm can return to the bottom edge of the "sweet spot" on market conditions alone. Management "engineers" this sweet spot using a reverse stock split. As a result, researchers have found companies that undergo reverse stock splits often lag the market.
Citigroup Plans Dividend and Reverse Stock Split (click here)
Reverse Stock Splits Don't Bode Well (click here)
One interesting sidenote is the reverse stock split should reduce volatility for Citi shares. The key reason behind this is that traders often make money on trading low priced shares like Citi in two ways. The first way is through the spread, and the second way is through rebates.
Let me illustrate. For example, I'm a trader who owns 1 million shares of Citi. The bid is $4.50 and the ask is $4.51. I continuously buy and sell shares making money "on the spread," or the $0.01 difference between the bid and ask price. In the case of 1 million shares, total profit is $10,000. As the article states, it is not always as easy as this. Because I'm acting as a market maker and providing liquidity in this situation, most U.S. exchanges will reward me for this through what's called a "rebate." Typically, it is 15 mils, or 0.15 of 1 penny. If I trade those million shares, I can earn up to $1,500 per day by providing liquidity. So, as a trader, I can make money on both the spread and providing liquidity.
Why is Citi so suitable for this trade. According to Tradeworx Founder Manoj Narang,
“Suitability” comes from low price and high volume. Low price is desirable because rebates are done on a PER SHARE basis, rather than on a percent-of-price basis. Thus, stocks with low price have a very high rebate as a percentage of their volatility (i.e. very high reward:risk ratio).
Citigroup exemplified both of these characteristics—extremely high share volume and extremely low price—in a way no other stock does. This was really a one-time anomaly created by the financial crisis, so it is not likely to be replicated in the future.
Trading in Citi is a Whole Sub-Industry (click here)
High Frequecy Trading: Can Any Stock Replace Citigroup (click here)
Warren Buffett Watch
On Japan...Warren Buffett believes that Japan is still a "buy." Rare, one-time events like the earthquake and tsunami that struck Japan only create buying opportunities.
Why Buffett Thinks Japan is a Buy (click here)
Goldman Repayment...Because Goldman Sachs passed the Fed's stress tests, Goldman Sachs will repurchase the $5 billion preferred stock investment, at 10% per year, from Mr. Buffett. In all of Berkshire's history, this has to be one of the most lucrative deals. In his annual letter to shareholder's, Mr. Buffett made reference to the fact he will not be happy when Goldman wants to repurchase the preferred shares. In addition, Mr. Buffett holds warrants to buy $5 billion of Goldman shares at $115 until 2013. As the article states, this would net a profit for Berkshire of about $2 billion.
Warren Buffett Gets an Unwanted Call from Goldman Sachs (click here)
On Future Deals...In the market Monday, the market was partially up due to the comments made by Mr. Buffett that he is still on the lookout for acquisitions. The acquisition of Lubrizol earlier this month depleted approximately $9 billion of cash from Berkshire Hathaway. Any new deal will likely be smaller as Berkshire will need to raise additional capital for any larger deals. Key reasons is Mr. Buffett does not like issuing equity (as he feels Berskhire is trading below its intrinsic value) and prefers to keep approximately $20 billion of cash on balance sheet. He addressed both of these issues in his most recent letter to shareholders.
Warren Buffett Still on the Lookout for Deals (click here)
25 Guys to Avoid on Wall St.
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25 Guys to Avoid on Wall St. (click here)
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