Portfolio Manager

News Flash: Major Market Turns Aren't Announced In Advance

At the Value Investors Congress last November, I heard Tom Brown pounding the table for Marblehead and Rich Pzena saying Freddie Mac was the best value he had seen in his entire investing career. At the time, I had enough respect for both men to refrain from shorting those stocks. Oh well. It is a good thing that I have been betting against Downey, Wachovia, BankUnited, MBIA, Ambac, WaMu, Morgan Stanley, and Lehman.

Tom knows an enormous amount about banks, and he was the top banking analyst on the street for seven years, if I am not mistaken. But he is clearly not objective in his assessment of this particular industry and the substantial risks it still faces.

There is also something deeply wrong with the culture of American banking. The incentive systems all revolve around volume rather than credit quality. At Anglo Irish Bank, one of the best-run banks in the world, you could get fired for bringing the central credit committee several risky loan proposals. At the typical large American bank, you might well get fired for trying to derail an unsound but temporarily lucrative corporate loan. A friend of mine had this experience at Citibank. He was saved only by a last-minute downgrade of the credit rating of the potential borrower. But the bankers he was supporting never forgave him. They didn't give a hoot whether the loan defaulted somewhere down the road. All they cared about was meeting their quotas.

It is possible that an investor might make money on some banks in the next three years. But why try to catch the falling knives and tomahawks when there are so many great companies, financial and otherwise, that don't have trillions of dollars of Level III capital and off-balance-sheet hanky panky? In the financial sector, I would point to Markel, Interactive Brokers, and CME, to name just a few. All three of those companies have managements that are not just prudent and ethical but visionary.