As Goes GM, So Goes U.S. Government Credit

Recent statistics show that 64% of the global currency reserves are held in US dollars. But if the Treasury’s latest guidelines on the auto industry bailout process are any guide, the Euro might well become the reserve currency of choice this year; 27% of currency reserves are currently in Euro-denominated assets.

If the hastily-packaged emergency funding for General Motors (GM) was not enough, the government has now lent $5 billion of tax-payer dollars at an 8% interest rate to General Motors Acceptance Corporation (GMAC), which lost billions in 2008 and which still holds $100 billion-plus in subprime, questionable mortgages through its subsidiary ResCap. Then, on Wednesday, the Treasury indicated that it would provide money to any company deemed important to making or financing cars.

There are two related but distinct issues which cause concern when auto-part suppliers like Delphi (which has filed for bankruptcy) become eligible for government assistance. Firstly, bailouts or otherwise, the overwhelmingly credit-driven manufacturing-to-sales Detroit business model is in dire straits, unsustainable and even counterproductive; the foundations of Deutsche Bank’s early-November call of “zero” value for General Motors remain intact. Secondly, the Treasury’s obvious expansion of its own Depression-influenced definition of “systemic” risk to now include the broad auto sector is more than likely to damage perceptions of US government risk.

This all-encompassing definition of systemic risks will push credit default swap spreads for 10-year US treasuries, last quoted at 60 basis points, to 100-120 bps within weeks, particularly as international investors realize that the Detroit Plan is turning into a disaster; already, central bankers outside the US are concerned by the lack of transparency in the utilization of $350 billion of tax-payer money for rescuing Wall Street’s elite financial institutions.

Who exactly is buying General Motors above $3.60 and why? GM’s stock may not get to zero in a hurry, given that vested political interests in Washington will inevitably generate another bailout package when the weaknesses within the temporary fix are exposed later in this quarter. But any move higher from Friday’s close represents one of the safest short bets in a long time. And for good reasons.

General Motors has announced a 0% financing option for car buyers; but the sharp 2008 decline in GM’s car sales has nothing whatsoever to do with interest rates. What American households are struggling to achieve is a semblance of rationality in their balance sheets, in the face of a dramatic erosion in wealth; the last thing they are worried about at this juncture is a new automobile. In fact, the overall size of the car market has contracted, and will continue to contract as the recession turns nastier during the course of this year. The need of the hour is lower production, lower inventories and, yes, lower union-related and legacy costs; in other words, a comprehensive restructuring under a bankruptcy umbrella.

In the meanwhile, it will be interesting to see how the Treasury responds to the crisis which is threatening the viability of GM’s suppliers and dealers. Already, property developers and insurers are lining up for bailout funds; the widespread consensus is that the government will end up supporting both sectors despite lawmakers suffering from a “shy bride” syndrome today. The sheer quantum of the bailout exercise ($8 trillion by last count) was already causing concern; today, more importantly, questions regarding the qualitative implementation of the exercise have also begun to surface.

Those trading General Motors shares should be aware that, though credit default spreads for Ford (F) and Ford Motor Credit, General Motors and GMAC have narrowed through this week, they continue to represent a significant risk of default.

Standard & Poor’s has downgraded GMAC to “selective default”; this reinterpretation of credit-worthiness definitions (to include “stand-alone” and “issuer credit”) by the rating agencies is further complicating the bond pricing matrix. The new multi-tiered rating structure is a direct consequence of the challenges facing the economy. It is the flawed response to those challenges which will adversely impact the “full faith and credit” of the US government.

Disclosure: Author holds a short position in GM

Comments

[gmlegacycost:]

hey bud, you better change that short position soon.

Jan 04 07:47 AM

[casey00001:]

Rakesh, you are forgetting one important factor. The majority of cars are sold on a three year lease. When the lease is up, people usually secure another car again on a three year lease. Now there is credit available to do that. So your statement "the last thing they are worried about at this juncture is a new automobile." doesn't have any validity. When the lease is up they are going to get a new car. That is how American's shop for cars now a days.

Jan 04 08:21 AM

[John D:]

At least everyone including the government knows how much went to the car companies & GMAC - seems there $350 billion that just disappeared with no trail or payback - hmmmm, hopefully now that US citizens have THEIR tax dollars invested in the car companies they will start buying NORTH AMERICAN again and watch their investments grow !!!

Jan 04 08:40 AM

[harleybob8117:]

Why do we keep giving money to these big corporations who have proven they don;t know how to manage the money. They are going to just make it all disappear. Besides they are going to make more cars the public still is not going to buy or can't afford to buy.

Why not give out vouchers to the public to buy a new car and get these old polluters and gas guzzlers off the road. The public gets the benefit of the government loan instead of the executives at the big 3 and the auto workers and the trickle down suppliers all still have jobs. I think that is a better boost to the economy.

Jan 04 09:44 AM

[oilcan821:]

all these so-called experts are worried about is dumping the unions! this won't make sales any better, look at mexican built gm cars! they are not cheaper!!! the management ran this company into the ground, not the union members!! all these so-called experts are is bean counters, not "car guys"! car guys built products people want, at an affordable price, not $15,000 suvs priced at $65,000! keep taking down the good paying jobs, and the only thing an $8-12 dollar an hour job will buy is a $9,000 piece of crap from korea, or a worn out used car! the greedy bastard who wrecked this company and economy are laughing all the way to the bank!!!

Jan 04 10:41 AM

[stefalb:]

If housing were the real dominant force behind the slump in car sales then the author would be right but I make the point that high gas prices were the driving force. The credit crunch intensified the problems by cutting off credit to interested car buyers. The support for GMAC and soon Ford Motor Credit alleviates the credit problem and much lower gas prices will make buying a new car much more interesting. GM and Ford still produce some of the most popular cars in the US. The argument that nobody wants and buys their cars is ridiculous. Easier credit and lower gas prices will make for some interesting car sales the coming months. Short sellers will get creamed. It will be fun to watch!!!

Jan 04 10:41 AM

[Jackls:]

Beginning a year ago, auto leases became history. All of the Detroit 3 captive lenders pulled out of leasing or made qualifying criteria much more difficult, with many of the regional lenders following suit. And, by the way, at its height, leasing only accounted for 21% of new vehicle sales. Even high-end luxury buyers/lessors are holding on to their current vehicles longer.


On Jan 04 08:21 AM casey00001 wrote:

> Rakesh, you are forgetting one important factor. The majority of
> cars are sold on a three year lease. When the lease is up, people
> usually secure another car again on a three year lease. Now there
> is credit available to do that. So your statement "the last thing
> they are worried about at this juncture is a new automobile." doesn't
> have any validity. When the lease is up they are going to get a new
> car. That is how American's shop for cars now a days.

Jan 04 11:09 AM

[sangellone:]

Could someone explain to me how GMAC can offer 0 percent financing when it is paying 3.75% for deposits and 8% on its US Government loan?

Remember this outfit is headed by J. Ezra Merkin who invested heavily in Bernard Madoff's Ponzi scheme. Surely the US Government should demand his resignation as someone this incompetent with other people's money should not be trusted with taxpayer's funds.

Jan 04 11:23 AM

[stefalb:]

GM is offering 0% financing, not GMAC. The finance cost is included in the sale price of a new car and GM pays GMAC for the service and the risk.


On Jan 04 11:23 AM sangellone wrote:

> Could someone explain to me how GMAC can offer 0 percent financing
> when it is paying 3.75% for deposits and 8% on its US Government
> loan?
>
> Remember this outfit is headed by J. Ezra Merkin who invested heavily
> in Bernard Madoff's Ponzi scheme. Surely the US Government should
> demand his resignation as someone this incompetent with other people's
> money should not be trusted with taxpayer's funds.

Jan 04 12:02 PM

[User 323649:]

GN stock is underpriced.......now is the time to buy....

Jan 04 12:22 PM

[PROXIMO:]

"The majority of cars are sold on a three year lease." That statement is absolutely mind-numbing. Put down the crack pipe.


On Jan 04 08:21 AM casey00001 wrote:

> Rakesh, you are forgetting one important factor. The majority of
> cars are sold on a three year lease. When the lease is up, people
> usually secure another car again on a three year lease. Now there
> is credit available to do that. So your statement "the last thing
> they are worried about at this juncture is a new automobile." doesn't
> have any validity. When the lease is up they are going to get a
> new car. That is how American's shop for cars now a days.

Jan 04 01:14 PM

[Geary:]

"Sold" on a lease? What part of that's a long-term rental, not a sale is confusing to you?

If you're thinking renting a rapidly depreciating asset is logical, I think we've found our challenge. To heck with thinking right, how bout we just get folks to THINK period?

Jan 04 02:13 PM

[Geary:]

Stefab -

Do you actually read what you type - WHERE do you think the money "paid" to GMAC by GM comes from? Are you datf?


On Jan 04 12:02 PM stefab wrote:

> GM is offering 0% financing, not GMAC. The finance cost is included
> in the sale price of a new car and GM pays GMAC for the service and
> the risk.

Jan 04 02:18 PM

[stefalb:]

The money comes from the car buyer. The buyer makes his monthly payment to GMAC. For the buyer this payment is calculated on 0% interest. GMAC or the dealer buys the car from GM at a lower price, discounted to reflect an interest rate, margin, and risk premium, agreed on between GM and GMAC. It is all internal accounting.


On Jan 04 02:18 PM Geary wrote:

> Stefab -
>
> Do you actually read what you type - WHERE do you think the money
> "paid" to GMAC by GM comes from? Are you datf?

Jan 04 03:29 PM

[michmudder:]

Given its track record with other financial institution rescues, the federal governments cash infusion into GMAC is surprising. Indeed GMAC may actually lend the money to consumers thereby helping to alleviate the credit crunch. From the previous TARP allocations one would suppose that the bailout money was only intended for financial institutions that planned hoard it in their vaults to improve their own balance sheets, or to buy weaker prey.

Jan 04 06:01 PM

[michmudder:]

"General Motors has announced a 0% financing option for car buyers; but the sharp 2008 decline in GM’s car sales has nothing whatsoever to do with interest rates."

This is nonsense. GM and Chrysler have lost market share as the credit crisis has deepened the last three months, while Ford has picked up market share these three months at GM and Chrysler's expense. The main reason is that GMAC and Chrysler Financial have less access to funds for consumer loans than Ford Credit.

Industry sales have declined greatly because of falling consumer confidence. But GM's sales have fallen much more than Ford and others because of the funding problems at GMAC.

Jan 04 06:24 PM

[secmaven:]

The peanuts given so far to GM and Chrysler will not even be enough for the YE increased contributions required to fund pension and medical plans designed to provide to the grave financial security for retired UAW workers. The peanuts were given to kick this can down the road to the Obama team whose leader has made impossible to fulfill campaign pledges to American Labor. W included the auto industry on his pardon list as a little gift to the next administration.

Jan 04 09:45 PM

[a. palmer jr.:]

I saw a neat little car on tv today. It was a Nissan (I forget the other name) but it costs less than $10000. It's probably a pretty good little car. Why can American car companies come up with something like that instead of pushing suvs?

Jan 05 12:00 AM

[stefalb:]

Because there are plenty of guys out there with small d**ks who need big cars to boost their ego. As long as they can afford them a big part of the American population rather buys SUV's.


On Jan 05 12:00 AM a. palmer jr. wrote:

> I saw a neat little car on tv today. It was a Nissan (I forget the
> other name) but it costs less than $10000. It's probably a pretty
> good little car. Why can American car companies come up with something
> like that instead of pushing suvs?

Jan 05 04:04 AM

[gwinner:]

My friend in the finance dept of a GM dealer has told me many stories of credit worthy individuals unable to secure loans in Q4 for vehicles they wanted to purchase. Read into that what you want but what I see is that among other thing, the rubber meets the road in this credit crisis in auto sales. Zero percent interest will help provided underwriting guidelines don't continue to kill deals. But, we'll see how much of a dent that will make because it is not the only factor in play in the auto's woes.

Jan 05 02:42 PM