Brokers Are The New Homebuilders - Forget The Bailouts

The credit market issues are spreading rapidly, and it is beyond naive to think that this is just a bump in the road - it’s the denial that makes me nervous. Just a week ago today I said (in large typeface): "When the M&As start to unwind it is time to be all cash or short the market - this is that time!!!" Today the WSJ counts 46 M&A deals worth more than $60Bn have been pulled since June 22nd.

So not only has nothing fundamentally changed since I started becoming concerned about the markets but things are deteriorating rapidly. How many deals were pulled last year? None! A lot of work goes into setting up an M&A deal and things have to be pretty catastrophic to take all that work, pay all those fees and trash it - but that’s happened AT LEAST ONCE A DAY FOR THE PAST MONTH!

"The gap between [financing] deals which were do-able in June and those which are do-able now has widened, and the only way right now the gap can be bridged is by valuations coming down, greater focus on operational improvements or sponsors accepting lower returns," said Simon Parry-Wingfield, head of European leveraged-and-acquisition finance at Morgan Stanley in London.

Sounds a lot like the housing crisis doesn’t it? This time it’s the brokers playing the role of homebuilders, telling the public that all is well while the value of their properties (the deals) rapidly declines and the interest rates climb and the buyers turn scarce.

Just like the home builders, the brokers keep trying to rally on the fairy tale that the Fed will come running in with low rates to bail them out but the Fed is in no position to lower rates, especially as they now have to competed with panicky bond holders (Wednesday’s wrap-up) who are dumping their notes which compete with Treasury notes for much-needed foreign capital.

Here is a 5-year chart for Beazer Homes

Here is a 5-year chart for Goldman Sachs

Here is a 5-year chart for Toll Brothers

Here is a 5-year chart for Bear Stearns

Here is a 5-year chart for Lennar

Here is a 5-year chart for Merrill Lynch

I could go on and on but I’m sure you get the idea. Both sectors buy properties and develop them. Builders speculate on land, brokers speculate on stocks. Both try to buy low and sell high but both got caught in the same trap of buying more and more at the top until their entire portfolio was filled with the most expensive properties in history at exactly the time that people began losing their taste for them.

This is just a variation of my Roach Motel Theory that is just now (much later than I predicted) starting to affect big oil and, while I hate to go out on an early limb with the brokers, I have to think the same forces are at work in that sector as well. I was too far ahead of the curve last September when I said Amaranth was just the tip of a very large iceberg and that the real speculators in the commodities game were MS, GS, CSR, DB, C and JPM.

I got killed in the fall shorting those guys because I forgot the words of the great John Maynard Keynes who said: “The market can remain irrational longer than you can remain solvent.”

Longer than we can remain solvent perhaps - but not forever!

Comments

[John Gaats:]

The irrationality you mentioned also demonstrate itself when good manufacturing stocks drop more than brokerage stocks when Dow dips. The market also pinalizes emerging market stocks. This makes it harder to take a position, long or short.

2007 Aug 03 10:25 AM

[emily x:]

"[T]he only way right now the gap can be bridged is by valuations coming down, greater focus on operational improvements or sponsors accepting lower returns" -- The first two will probably take care of themselves as this plays out; the third is the "human" element and, just like in the housing market, it's gonna take time for those very high profit expectations to come down. Rock on, Phil.

2007 Aug 08 09:49 AM