Automakers: Investment Risk

Today's news about the automakers shows the inherent risk of investing.

First, there is the demise and restructuring of Chrysler. Chrysler will file for Chapter 11 bankruptcy protection. As a result, Cerberus Capital Management will take a substantial loss. Some hedge funds, unwilling to admit the magnitude of their mistakes, will also incur losses.

Fiat will, in turn, form an alliance with a stake in the restructured Chrysler. Dealerships will be closed and auto-parts supplier contracts will probably be revised.

Secondly, a group of General Motors (GM) bondholders are making a counter-offer. The proposal gives the UAW a 41% equity stake, a 51% stake to bondholders and 1% to current shareholders. In blunt terms, if you own GM stock, this proposal essentially wipes out the value of your holdings.

Capitalism works by punishing those who make mistakes. Furthermore, stocks generate higher long-term returns by exposing investors to greater risk.

Both of these factors are at play today and show the inherent risk of investing. If you buy shares in a struggling company, you are likely to lose money. At the same time, bondholders get priority in bankruptcy. Shareholders might get the earnings, but it's the debtors who get the cash.

It's something to think about since Ford (F) is jumping today. After all, a messy General Motors bankruptcy could take the stock right back down.

There is nothing wrong with making speculative trades if you have money you are completely willing to lose. However, with so many fundamentally stable companies to choose from, and a wealth of information to help you make the right picks, it just doesn't make sense to take a large gamble on companies with big problems.

Cerberus is learning this lesson with Chrysler, and many individual investors are about to learn that lesson with GM.

Comments

[John Truglio]

I hate the market. Actually, I had Ford last week (650 shares at 4.08) and got rid of it the same day for a lousy tank of gas, couple packs of smokes, and the rest went to taxes. I bought the dang thing today, 500 shares at 5.85. I just want to lose my money. I didn't want 1,000 last Friday morning. I wanted 80.

2009 Apr 30 02:08 PM

[Market Sniper]

Lost again in the shuffle is the taxpayers of this country. Now what do I hear? During the bankruptcy proceedings, the US Government will make good on auto warranties issued by Chrysler! So now the US Taxpayers are fixing cars. Totally unbelievable. I read somewhere that this kind of arrangement is endemic to a certain form of government. Someone help me out here. Word starts with an F. Most certainly NOT envisioned by the Founding Fathers, but little is anymore.

2009 Apr 30 08:20 PM

[chleoku]

well GM and other US automakers have not clue about the market competition and empathetic view from consumers:

www.wealthalchemist.co.../

They are basically clueless. No matter bankruptcy now or not, they would not be able to survive in the market competition with the german and jap firms

2009 May 01 02:07 AM

[rbblum]

The Chrysler story today really could be confused and given erroneous credit for the line 'Mr. President, this has disaster written all over it' . . . But it was actually the the movie The American President and a line from the character Sydney Wade as played by Annette Bening who delivered the appropriate, perhpas perfect, line.

But it still could appear to be a comedy of errors by the time Chrysler makes it through the gauntlet of bankruptcy court. It was painful enough for billions of taxpayer dollars going to prop up an American capitalist company in the business of manufacturing vehicles that, by most accounts, would appear to be in a downward spiral resulting in be a slow, painful crash, but Chrysler's storyline will not have a merciful ending for it really is, and has been, many things to many people. Not only was Congress determining by committee a myriad of regulations overseeing the final product but also a sense of push-me/pull-you as evidenced by management vs union. And if it was not bad enough that the current administration whipsawed Chrysler on its way to the barkruptcy court but somehow is giving the belief that Chrysler will be on the 'fast track' through the judicial system that is anticipating the merging of FIAT, an Italian manufacturer of adult-kiddie cars with an American machine that will be represented by dealerships that have somehow survived through a process of cut-throat, back-stabbing and luck. But worse, will be Chrsler's management role overseen by union through union eyes as well as a push by the invisible hands of the current administration, dictating what type of product it should sell, establishing the cost structure of manufacturing the product and the cost of selling the product as well as how the corporate structure should be established . . . all for the good of society.

Gotta go back to the line that describes the Chrysler story best . . .
Mr. President, this has disaster written all over it . . . albeit, in torturous, slow motion.

2009 May 01 08:14 AM