Pushing on a String
Our discussion of the GM IPO has been timely: the company filed with the SEC for its IPO yesterday. Now, we can answer some of the looming questions.
First of all, it sounds as though GM will not issue new shares, but rather simply sell more of the existing ones. That means the current common shareholders will not be wiped out. It also means that individual investors will be able to buy GM shares on the first day they are available.
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I understand that some GM bonds Are currently trading, and others have been settled with a 10% equity stake. So if you hold GM bonds, you should look into this further.
The IPO will be a combination of common stock sold by the Treasury and warrants that will convert to common stock sold by GM. The Treasury is trying to bring its stake below 50%.
For the Treasury (the taxpayer) to get paid in full GM must be receive a valuation around $70 billion. Ford is currently worth $42 billion and Toyota is worth $110 billion.
GM revenue is up 44% to $33 billion. And it's reported $1.07 billion and $1.54 billion in 1st and 2nd quarter earnings. Assuming it can stay in that $1.54 billion in earnings pace for the remainder of the year, a $70 billion valuation would give the new GM a P/E of approximately 12.
That's doable, and may even allow for some upside for the shares.
Investors were looking for some good news from last week's new unemployment claims. That's why Dow Industrials futures were up 50 in pre-market. But claims came in at the highest level since November, at 500,000.
Needless to say futures erased all of their gains.
Treasury bond prices have been on a tear since the Fed announced t would be rolling profits from mortgage assets into T-bills. The iShares Barclays 20+ Year Treasury Bond ETF (TLT) has rallied nearly 7% so far this month.
Interest rates on the 10-year bond have dropped to the 2.6% range.
It would appear that the Fed is not out of ammo when it comes to keeping rates down. But one has to wonder how long investors will buy bonds at such low yields.
Of course, that's part of the point. Low interest rates force investors to take on more risk to achieve the yields they need.
Think about insurance companies. They invest insurance premiums into conservative investments like bonds in order to make enough money to pay off insurance claims. The difference of 2.6% and the 3.6% - 4% the 10-year bond paid early in the year is significant.
Not only has the Fed pumped liquidity into the system via low rates, asset purchases and guarantees, it is also forcing action for companies that depend on a certain yield from their bonds. If insurance companies can't meet their obligations based on the returns of their current investments, they must take on more risk to make more money.
Even banks may be forced to lend if simply parking their cash in bonds turns into a losing proposition as yields stay below inflation.
This type of stimulus by the Fed has been called "pushing on a string." Because regardless of how much money the Fed pushes into the economy, if there is no demand, then there is no catalyst to pick up the slack.
It's pretty easy to see that, in the current economic environment, the Fed is pushing as hard as it can. No one is pulling the other end of the string.
Intel (Nasdaq:INTC) is continuing the buyout trend by taking on computer security company McAfee (NYSE:MFE) for $7.7 billion. Earlier this week, it was BHP Billiton (NYSE:BHP) trying to buyout Potash Corp of Saskatchewan (NYSE:POT).
Many companies are flush with cash. And they are seeking growth via the takeover. This trend will likely continue until demand makes hiring an attractive option for growing earnings. Especially for technology companies.
Tech companies have a lot of cash on the books and valuations are very low. The odd thing is that tech stocks have been out of favor, despite very attractive valuations. Intel, with a forward P/E below 10 even after posting a record breaking 2nd quarter appears to be a bargain.
I've got a few other bargain tech stock on my radar. To learn more about eh undervalued tech stocks that could make you +33% gains, click HERE.
As always, you can write me with your comments at dailyprofit@wyattresearch.com.
