November 17, 2008

Global Market Comments for November 17, 2008
Special wine edition. 5 page issue today.

Highlighted Trades: (GM), (STZ), (FO), (DEO), (SPX)

1) Expect to hear a lot of hand ringing about the auto industry this week. Its representatives want us to believe that 10% of all the jobs, and 20% of retail sales are somehow car related, and the destruction of the industry would bring the onset of a nuclear winter. I have to tell you that as an analyst of the Japanese car industry for 35 years I have watched Detroit self destruct. Over the last ten years GM has invested $310 billion in its business, which is now effectively worth zero. Depreciation during this time was $128 billion, meaning that the company has vaporized $182 billion of capital. I have heard every excuse: high fuel prices, foreign competition, greedy unions, and excessive regulation. But during this same period Japanese car makers moved from strength to strength, and have taken over one third of the US car market. The bottom line is that Detroit can't make a decent, profitable product people want to buy, and hasn't for decades. If you are going to throw these people a life preserver, make sure it is made out of lead.

2) One of the first signs of the economy turning next year will be a spate of hostile takeover bids. According to Sullivan & Cromwell, the leading M & A law firm in New York, so many great companies are selling so cheaply they are bound to attract deep pocketed suitors.

3) Banks extended $200 billion in new loans in October, more than in the previous eight months combined. Companies are drawing down their revolvers since the bond markets are closed, even when they don't need the money. Banks are happy to do this because with these spreads, the business is now the most profitable in its history.

4) Santa Clara county's measure 'B', which provides funding for the BART extension from Fremont to San Jose, and had been given up for dead, may actually pass. With 14,000 more absentee votes still to be counted, the measure only needs 360 more votes to pass out of a total of 607,698 cast. All other Bay Area transportation measures have passed.

5) According to Neil Kashkari, the bureaucrat responsible for administering the Treasury's TARP program, there are 58 million mortgages in the US, and another 20 million homes are owned free and clear. The underwater capital of the US is Mountain Valley, CA, just east of Livermore, where 90% of homeowners owe the bank more than their property is worth.

6) I took a look at the three major listed wine producing companies to see how recession proof their stocks have actually been. The answer is not very much. These companies are so diversified that it is hard to get any read of how much the impact of profits from wine have really been. As a group, their shares have dropped more than the market as a whole. There is no doubt that the stocks have been dragged down by the general implosion of market multiples. Their diversification efforts, especially into highly cyclical housing and travel related sectors, seemed to have gotten them into more trouble than kept them out. And the largest wine producer in the US, Gallo, has stayed privately held, not looking like such a bad idea right now. See charts below:

UK Based Diageo (DEO) has seen its stock melt 42% from $90 to $52. It is the largest multinational beer, wine, and spirits company in the world with the purest play in this area. Its core holding is Guinness beer, and includes a presence in hotels (Grand Metropolitan, Intercontinental Hotel), and travel. Its best known brands include Johnnie Walker, Smirnoff, Captain Morgan rum, Jose Cuervo tequila, Sterling Vineyards, and of course Alameda's Rosenblum.

Fortune Brands (FO) is the old American Tobacco Company and has seen its stock drop 61% from $82 to $32. It has a presence in golf (Titleist, Footjoy), homebuilding (Masterbrand Cabinets, Moen, and Master Lock), and spirits (Jim Beam, Laphroaig, Courvosier, Kamchatka vodka, Gibley's gin, Ronrico rum). In 2007 it sold its wine operation (2.6 million cases/year of Clos du Bois and others) to Constellation Brands for $885 million.

Constellation Brands (STZ) watched it stock plunge 62% from $26 to $10. It is the largest public vineyard owner in the world, producing over 57 million cases/year, including Franciscan Oakville Estate, Simi Winery, Ravenswood, Arbor Mist, and Clos du Bois. In 2004 it bought Mondavi USA, and in 2006 it acquired Vincor International for $1.4 billion.

8) Here is the best forecast for GDP growth for the British economy that I have seen, which is lagging the US economy by about six months. It suggests that the US economy will bottom out soon. The market is discounting a 'U' recovery, but will get a 'V' because of the massive amount of liquidity hitting the system.


I turned on my screens this morning to find another free money trade staring me in the face. With the index at 850 you could sell the November S&P 500 780 puts for $10. These expire at the Friday opening in four trading days, and it a great opportunity to short once in a lifetime volatility at 69%. The time decay in these ultra high implied volatility options in at last few days is truly geometric. A short sale of 100 contracts would bring in $50,000. The S&P 500 would have to drop more than 80 points in four days, or the Dow 800 points from an already low level of 8,300, to lose money on this trade. Even if GM goes bankrupt this week, you probably won't get a move of this magnitude. Another rich uncle type of trade.