Be Prepared for S&P to Hit 350 by June 2010 33 comments
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The vast majority of small business owners rely on credit to fund the operations of their businesses: to make payroll, buy supplies, and smooth out their operational cash flow.
Any disruption to the supply of credit to these firms can be very damaging to our economy. According to SmallBusinessNotes.com:
America’s small businesses - some 20 million strong - are the strength of our nation’s economy. They account for 39 percent of the country’s gross national product, create two out of every three new jobs and produce two and one half times as many innovations per employee as do large firms.
Well, those 20 million small businesses are about to find their supply of credit seriously disrupted. Why? As of May 30th, 2009, one of the largest small business credit card issuers, Advanta Corp. (ADVNA) and (ADVNB), stated that all Advanta Business Credit Card accounts will be closed indefinitely. This includes purchases, checks and balance transfers to and from the accounts.
It’s important to note that this closure has nothing to do with the account holder’s credit score; the axe is coming down on all accounts.
So why am I telling you this, and what does it have to do with the S&P 500 hitting the 350 mark? My business, Freund Investing LLC., is one of the millions of small businesses that is affected by Advanta’s decision. Indeed, I received my second reminder of the impending change from Advanta just today:
| Dear Customer, | |
 | Your Advanta Business Card account is funded by an independent trust which owns the balances you owe on your account and provides funding for new transactions. We expect the trust to stop funding activity on our accounts. The trust also restricts our flexibility to fund activity on your account. Unfortunately, as a result, effective May 30th all Advanta Business Credit Card accounts, including your account, will be closed. This means that you will not be able to use your card or account for new transactions, including purchases, checks and balance transfers beginning on May 30th. We understand that you may have written checks on your account before May 30th and we will make every effort to honor those checks that are presented to us for payment by June 3rd. If you use your Advanta card to make automatic recurring bill payments, you will need to make alternative arrangements for those payments promptly. It is important to understand that you are not required to pay your entire balance at this time. You may continue to pay down your account balance over time, as allowed under your Advanta Business Card Agreement. We have also reduced the credit line on your account to the amount of your current outstanding balance effective immediately. We will send you additional information about why we have taken this action in another letter. You will not lose the rewards that you have earned. If you participate in a Cash Back program, you will receive a check for the amount of any accrued rewards more than $1.00 as long as you make the required minimum payments and your account remains in good standing. If you participate in a Business Rewards program, you will have at least 60 days to redeem your points as long as you make the required minimum payments and your account remains in good standing. We deeply regret the impact this action will have on your business and very much wish it was not necessary. We are committed to assist you through this process. Additional information will be available at www.advanta.com/notice. If you have any other questions or concerns, or if we can assist you in any other way, please feel free to contact our Customer Service Center. You can email us your questions 24 hours a day at www.advanta.com/secure or call us toll free at Sincerely, |
Luckily, Freund Investing, LLC, has never relied on credit granted by companies like Advanta; unlike most small businesses.
I am informing you all of this because I want everyone to understand that what you hear on TV is not an accurate portrayal of the real world. This very ominous sign for small businesses - the lifeblood of our economy - is the real world.
It’s important to keep these realities in mind before buying into the “green shoots” argument, and any other number of silly terminologies designed to make you feel safe dumping your hard earned cash back into equities.
The real world economy is worsening at a rapid clip; jobs are continually being lost, General Motors (GM) is nearing bankruptcy after being in business for over 100 years, most banks are insolvent (which we could argue about ad-nauseum), real-estate prices continue to decline, and treasury yields are becoming dangerously high - threatening to destroy any “green shoots” previously identified in the real-estate market.
If there’s one thing that’s a certainty: the markets will absolutely follow suit. In my estimation, we’re about 9-12 months away from the real bottom. The bottom will, in my opinion, drop 40% to 60% from the current levels. This means the S&P 500 will have dropped to between 357 to 536 by June 2010. I hope I’m wrong, but the real world evidence doesn’t look too promising.
Not only do I believe that it’s about to get much worse; I’m acting on it. Both myself and my clients are sufficiently hedged against such a scenario, and I suggest you do the same.
Disclosure: Freund Investing Managing Member Ryan Freund holds no position in any of the companies mentioned in this article. Freund Investing has a solid Disclosure Policy.
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This article has 33 comments:
What if I told you that I'm going find it hard to keep awake now, because my source for caffeine, RC Cola, is going out of business? You'd laugh in my face. RC makes a delicious cola, but what about Coke and Pepsi? And can't I also get caffeine from coffee or tea? Similarly, I would say that you can get a small business credit card from dozens of bank issuers, large and small. Furthermore, you could still use a consumer card that serves the exact same function. Finally, you could get a regular line of credit or small business loan.
This analysis is so weak that you've given me a headache. It's like you've adapted a credit card story from that horrible Butterfly Effect movie with Ashton Kucher:
1. Crummy small business credit card issuer goes belly up ...
2. Which causes 20 million small businesses in the US major problems (even though only a small portion of them use Advanta, and despite the fact that they can now take their business elsewhere) ...
3. Which hurts the whole US economy ...
4. Which causes the S&P 500 to drop more than 50% to 1990 levels?
Really man, really?? All because a poorly run niche small business credit card issuer fails? And people are investing money with you? Now THAT is scary.
In order for banks to reach the Tangible Common Equity/Tangible Common Asset ration of the required > 4%, they need an additional $300 bn. The top 19 banks raised $110 bn in capital in Q1, which includes $20bn in net profits, An additional $75bn will be required to reach the target.
The problem is with banks 20 + which require an additional $100 bn but are nowhere near the target, which is the primary reason credit has dried up for small businesses and consumers.
" Bank capital requirements will continue to restrain lending."
The fact is that small business credit continues to decelerate.
I really wish I could I could be blindly optimistic that everything in the economy is ok and that all we have to to is "believe". There is no Santa Claus, there is no Easter Bunny and there is no quick solution to the financial crisis.
But it won't bring down the economy. The weaker businesses will close and the stronger businesses will pick up the slack. Consolidation will occur which will raise overall productivity.
In boom times, small businesses proliferate and overcapacity becomes a problem. Well run businesses have to compete with poorly run businesses that don't understand how to cost their products or services and often undercut the market price to get business, driving profits down for everyone.
Well run, conservatively financed small businesses will survive and prosper.
The rules for consumer credit cards just got a lot tighter / less profitable for credit card issuers. Luckily (from bank's perspectives), small business (e.g., V / MA include them in Commercial Card Business) credit cards are not effected by the Bill of Rights, so there is tremendous incentive for major issuers (Chase, BofA, CapitalOne) to apply their data mining strategies to identify previous consumer card customers that are eligible to be migrated to Small Business Cards (e.g., 1099 IT consultants, dentists, doctors, restaurant owners, ... , even Seeking Alpha traders ... could all have their cards flipped from consumer to small business).
With some success from TALF, cost of funds are coming down from the post-Lehman distressed levels. New small business credit cards can be quite profitable, as you do not have to reserve for much credit losses for the first 12-18 months (new vintage); annual fees are more common, 0% introductory rates are not essential, and transactions (interchange income) can be quite high.
In summary -- credit is starting to become more available for small businesses; in 6-12 months, more are more issuers will expand their solicitation efforts as their portfolio profitability starts to improve (credit card losses are expected to peak in Q3 2010, so loan loss reserves should peak in Q3 2009).
I am not a perma-bear. And I'm obviously not a perma-bull. I call it like I see it. That said, when I see "green shoots", you better believe I'll be back on the bull train.
And yes, please save the article and if I'm wrong, and the S&P hasn't touched between the range I predict, than you have the right to shove it up my nose :).
On the S&P call, I am bearish but not to the extent of 350. I think earnings forecasts for S&P are dire - $46 for 2010 (Top down consensus operating earnings) - translates to a PE of about 20 - ridiculously high. 10x$46 would be 460.
S&P at 350 would be a 78% drop from peak to trough. Very close to the Great Depression peak to trough drop of 90%.
Ryan -- If you have some sort of rational explanation for why the market (S&P or whatever) is going to be halved by the middle of next year, don't sit on it! A clearly articulated, logical argument for why you believe this to be the case would be welcome.
But what we you've written is a mess. Your conclusion is that the market is going down the crapper, and that wise investors should hedge. Fine. What's that opinion based on? Anecdotes:
- Advanta's demise is just the first domino. How have you determined that one small business credit card pure play is the canary in the mine, whereas any number of other business failures (during good times and bad) aren't a forewarning that the economy is going to nosedive?
- The real world economy is worsening at a rapid clip. Based on what? And what's a rapid clip? What makes this recession worse than others we've climbed out of? You know you're at odds with the consensus view of trained economists, right?
- GM is nearing bankruptcy. What does a non-competitive car maker weighed down by onerous union contracts have to do with Advanta, or small business credit?
- Most banks are insolvent. I don't think "insolvent" means what you think it means.
You overreached with this article, Ryan. I'm actually not all Pollyanna about the economy myself. You might be right in the end. But you have to back up your doomsday title with some well worded arguments. The way it's written right now -- you're like the horrible American Idol singer who doesn't realize how bad he is.
- Advanta's demise is just the first domino. How have you determined that one small business credit card pure play is the canary in the mine, whereas any number of other business failures (during good times and bad) aren't a forewarning that the economy is going to nosedive?
I live in the real world. I see the tightening of credit affecting at LEAST 1 million small businesses (Advanta's clients). Is Advanta the only canary in the coal mine? No, there are plenty. I chose to focus on Advanta because it's affecting me. I don't know what warped world you live in, but when a major company that supplies roughly 5% of small business credit goes is forced to stop lending, that's a huge red flag. You think that the trusts that funded Advanta's credit lines aren't doing the same to other, better established companies that aren't pure play small business creditors? That, my friend, is a dangerous assumption.
- The real world economy is worsening at a rapid clip. Based on what? And what's a rapid clip? What makes this recession worse than others we've climbed out of? You know you're at odds with the consensus view of trained economists, right?
Of course I'm at odds with the consensus view of trained economists. Because they're wrong. We're at Great Depression level unemployment, but you probably wouldn't know that, because you believe the government when they say we're around 9% UE. Hate to be the bearer of bad news, but the actual unemployment rate (using the metrics used in the Great Depression) is more like 20%, and in the Great Depression UE maxed out at 25%.
- GM is nearing bankruptcy. What does a non-competitive car maker weighed down by onerous union contracts have to do with Advanta, or small business credit?
It doesn't have anything to do with that. But it does have to do with my prediction of S&P 500 hitting between 350 and 536. The downstream affects of a GM bankruptcy are enormous. This, again, is a canary in a coal mine. S&P 500 at 350 represents a 78% decline from it's peak in 2007 to it's trough. Is it really that hard to believe this will happen? The Great Depression saw a 90% drop. If I were to really go out on a limb, I'd say we're likely to see that, but I kept my estimates conservative.
- Most banks are insolvent. I don't think "insolvent" means what you think it means.
I know exactly what insolvent means. I'd suggest you go back and look at Japan's banks during the 1990's to gain a clearer picture of what I'm talking about.
Now, if you're through trolling, move along. I am trying to warn you using solid evidence, but if you refuse to listen, I will not feel sorry for you when the day of reckoning comes.
A troll meaning I'm arguing for its own sake, or have some crazy vendetta against you? No, not a troll. I'm just frustrated by the gaps in your logic. Here are some more to wrap your head around:
1. You see Advanta's demise affecting 1M small businesses, and you chose to focus on Advanta because it's affecting you ... and in your original article, you said: "Luckily, Freund Investing, LLC, has never relied on credit granted by companies like Advanta; unlike most small businesses." So, you've contradicted yourself. And how do you know about "most small businesses"? What data do you have on Advanta's 1M or so accounts? How many don't rely on the card, just like Freund Investing, LLC? How many have more than one credit card? How many cards does the average small business owner have? You don't know/you don't say.
As I said near the end of my second comment, I do think the economy is in the crapper. I agree that tight credit is a big problem. But while some of the problems Advanta faced are related to the economy (supports your logic), some are unique to Advanta (ignored by you).
2. Would you please provide either a link, or write another article, that backs up your claim that we're at Great Depression level unemployment, and that all these economists are wrong? I'm more than happy to admit that I'm wrong if you'd just provide some proof. If you wrote something that showed that these economists were full of it, you could be superstar. You'd be on TV and in newspapers. Do it, man! If you're so certain you're right, share the information, please!
3. I just don't think that a GM failure is as momentous as you do, I guess. I think both GM employees and companies within the GM universe are resilient. They can and will find work elsewhere, and find other things to produce or service. Perhaps I have an overly optimistic view of American workers & companies, but we probably have to agree to disagree on this point.
4. Japan. Well, I don't mean to be a broken record, but as with the Great Depression question, I'd also appreciate you spelling out better the connections you see between Japanese banks of the 1990s and the big global banks (primarily American, I presume) nowadays.
So, I engaged in a bit of ad hominem attacking earlier, which was probably unnecessary. But I was flabbergasted at your original article, and even more surprised that you doubled and tripled down. I've not yet seen anything approaching what you call "solid evidence," and that's what I hope you will provide. If you can do so convincingly, which I'd LOVE, then you might save me and others tons of money. I'm ready to be convinced -- show me the data!
p.s. Simply saying that we're on the cusp of another Great Depression doesn't constitute solid evidence.
Also, in my opinion, the call that the SP is going to 350 based on this analysis is just too "out of the hat" since it implies that the SP will be trading a something like five times earnings. Now we all like to bash analysts' consensus earnings as too optimistic, but man, you've set a record here. You sound like Joe Granville. And if you're old enough to know who that is, you're old enough to be wise enough to make money by listening to the market rather than telling the market where it has to go.
I agree with some of your points; and some I must continue to disagree with:
1.) I don't know how many don't rely on Advanta credit out of that 1 million + (not 20 mil, as stated in the article, which is egregiously wrong and has been corrected on my site). Your point is well taken; but I'm sorta going with my gut here saying that most small businesses do rely on credit; whereas mine is an exception because a.) I don't have employees, b.) In an investment company, the overhead is minimal and c.) I have a job that pays me very well on the side, affording me the luxury of not having to use credit. I could be wrong, but I am of the opinion my circumstances are quite unique.
2.) I did write another article just recently that talks about that very issue: freundinvesting.com/20.../
Note the link to the graph at the end. The blue line represents the way we recorded unemployment as recently as the Clinton Administration and dates back to the Great Depression. This article will be published to SA soon I surmise.
3.) Maybe I have an overly pessimistic view of the havoc a GM bankruptcy will have on the economy. I do know that they're axing thousands of dealers, each with 50 jobs a piece. Additionally, each of these dealerships exist within communities and provide lots of other economic activity to those communities. Then there's the parts suppliers that will feel the heat. Will GM and Chrysler going into bankruptcy destroy the economy? No, not single-handedly. I agree with you there.
4.) Japanese "zombie banks" were dubbed so because they couldn't get off the government "teet". From all I've seen so far, as well as a pessimistic view of real estate (prime borrowers are now facing defaults at a subprime rate), the banks will need help long into the foreseeable future.
As you've noticed, I take a rather simplistic view of the issues; and perhaps I neglected to elaborate on them in my original article (when they're in my head, I tend to assume others already know them).
AJB7:
I do think that you do have a valid argument; that small businesses failing caused this. That's almost guaranteed, but to an extent. The point isn't really about Advanta; that's simply a way of describing a much larger problem with a real world example. The problem is that there's a cycle that has yet to be broken: lack of credit leads to small businesses unable to continue operating which leads to more lack of credit, etc. etc. Expand this line of thought into any other type of credit: large business, consumer, etc... Throw Great Depression type unemployment, and 350 doesn't seem that far fetched.
And no, I don't know who Joe Granville is.
Thanks for the comments, all. They've helped me recognize some flaws in the article.
S&P 350 by June '10... I doubt it but if approaches a new low it will be sooner. The next commercial lending crisis will be in the next 6 months and the market will slide before that if it has not already accounted for that possibility.
Ah, Ryan, I wish you hadn't said that. Here, read this:
en.wikipedia.org/wiki/...
: - )
Kinda reminds me of an interview with Ken Griffey Jr. early in his career, when the interviewer likened him to one of the all-time great African-American players (Mays, Aaron, I don't recall which), Jr. said he didn't know who that was.
Cheers.
How can people say we have too many businesses tailored to the consumer(YES, many of those small businesses) and that the economy will collapse if some of the fluff goes out of business.
Its the same bad argument Larry made about less credit to people. Guess what, while in the short term Joe Idiot who has no real money to buy a car but does so on credit is good for the economy, in the long run its bad when he defaults and then the car company goes out of business.
Its the same thing the other way. If you close down credit to Joe Idiot, in the short term it may be bad he doesn't buy a car, but in the long term it better because he doesn't default. The idea that is John Moneybucks who can afford things is going to be also affected if his credit gets cut is stupid. John Moneybucks will either A)use cash or B)be in a good enough position to get the credit. or C)a combination of A&B
Its called rightsizing. Happens in every recession.
You can't have it both ways Ryan and Larry. Sorry.
On May 28 11:55 AM mr freddo wrote:
> As a former small business owner, I would have to agree with the
> author that shutting off credit will kill many of these businesses
> that are the engines of employment in our economy.
>
> But it won't bring down the economy. The weaker businesses will close
> and the stronger businesses will pick up the slack. Consolidation
> will occur which will raise overall productivity.
>
> In boom times, small businesses proliferate and overcapacity becomes
> a problem. Well run businesses have to compete with poorly run businesses
> that don't understand how to cost their products or services and
> often undercut the market price to get business, driving profits
> down for everyone.
>
> Well run, conservatively financed small businesses will survive and
> prosper.
I do not agree that the S&P will fall to these numbers. You are not taking into account the fundamental of inflation which will range from High, Hyper-, Ludicrous- (Space Balls).
I'm not knowledgeable enough to know if hyper-inflation pushes people to take loans or if banks even support credit under hyper-inflation. That would be another deciding factor in credit extension to SOHO businesses.
Back in the old days Credit was used to purchase things that were larger than could be reasonably saved for in a timely manner, like a house, a new factory, and sometimes a car. Credit was not used to satisfy consumer whimsy like dinner, flat screens, etc.
If interest rates get to where they should be, then we'll fine the appropriate balance on credit/saving spending habits. But 0.25% isn't it.
On May 29 12:12 AM CJJ wrote:
> Ex-freaking-actly...
>
> Its the same bad argument Larry made about less credit to people.
> Guess what, while in the short term Joe Idiot who has no real money
> to buy a car but does so on credit is good for the economy
The only thing he is trying to point out is the system is imploding.
And short or long term it's over, if you think otherwise go out and borrow see what is going to happen. The only good thing about the current set of fools in Washington is they will be able to end it sooner rather than have it prolonged a bit by Republicans. Watch what happens when fools think governments can save us. It will be most fitting to have the system implode under the Democrats since they have the most faith in government. It would implode anyway since both parties are idiots.
Saw this article and thought of yours. I suppose both could be right -- S&P rises to 1,200 by year end and then crashes to 350 by mid-2010 -- but more likely, these guys have a completely different outlook on the market than you. I hope they're right, for all our sakes.
www.cnbc.com/id/310653...
By the way, given your pessimism, what do you think of GLD?
I will never own gold. It's mostly useless and the only value is in what other people are willing to pay for it. Silver, maybe, but I still think inflation won't be rearing it's ugly head for 2-3 years.
Additionally, yes, I gave the specific timeframe of June 2010 because I believe that a rally to 1,000 or even 1,200 is possible. But in the end, blind optimism won't cure what ails the economy.
Ryan
On May 28 03:21 PM BAC PL wrote:
> As it stands, the article is just plain poorly written. Poorly written
> by Chicken Little, no less.
>
> Ryan -- If you have some sort of rational explanation for why the
> market (S&P or whatever) is going to be halved by the middle
> of next year, don't sit on it! A clearly articulated, logical argument
> for why you believe this to be the case would be welcome.
>
> But what we you've written is a mess. Your conclusion is that the
> market is going down the crapper, and that wise investors should
> hedge. Fine. What's that opinion based on? Anecdotes:
>
> - Advanta's demise is just the first domino. How have you determined
> that one small business credit card pure play is the canary in the
> mine, whereas any number of other business failures (during good
> times and bad) aren't a forewarning that the economy is going to
> nosedive?
> - The real world economy is worsening at a rapid clip. Based on what?
> And what's a rapid clip? What makes this recession worse than others
> we've climbed out of? You know you're at odds with the consensus
> view of trained economists, right?
> - GM is nearing bankruptcy. What does a non-competitive car maker
> weighed down by onerous union contracts have to do with Advanta,
> or small business credit?
> - Most banks are insolvent. I don't think "insolvent" means what
> you think it means.
>
> You overreached with this article, Ryan. I'm actually not all Pollyanna
> about the economy myself. You might be right in the end. But you
> have to back up your doomsday title with some well worded arguments.
> The way it's written right now -- you're like the horrible American
> Idol singer who doesn't realize how bad he is.
While it's true I don't offer precise advice on how to "protect" yourself from such a drop, it's fairly obvious that if the market will drop you should either a.) be in cash, or b.) be shorting the market. Didn't think I needed to point that out.
Either way, I knew this article would bring out some anger as it rebuffs what CNBC is saying, and what many "hope" to have happen. Sorry, but CNBC's cheerleading, and "hope" won't change the outcome.
I stand by my prediction of S&P falling to between 357 and 536 at some point before June 2010. If I'm wrong, then by all means, rip me apart.
Jun 09 08:58 AM raytaythemd wrote:
> ...I agree wholeheartedly -- the article is useless...sweeping conclusions
> based upon no data, hisrtorical or otherwise...and the author's admission
> that he doesn't recognize the name of Joe Granville suggests that
> he's probably under the age of thirty; clearly possessing limited
> experience and even more limited historical knowledge...also, he
> says "be prepared" but offers no idea of what "be prepared means...stay
> in cash?...gold?...canned goods and guns?...moreover, he neglects
> the remarkable ability man and business have to ADAPT to given situations...after
> the "crash" I revamped my way of living -- consolidated credit cards,
> paid off balances, started paying balances in full at the beginning
> of each month, worked up a budget, etc...and now I am in the best
> financial condition that I've been in twenty years...not only that
> but the past year has provided me with the best investment returns
> I've had since 2000-2001...I didn't achieve that trying to predict
> the future of the economy or the market...I simply did as I have
> always down -- sat down and looked at my investment alternatives
> and planned for the long haul...unfortunately, as evidenced by seekingalpha
> articles, people apparently can't resist prophesying or pursuing
> "holy grails"...